Auditing and Ethics by Deepika Rathi

AUDIT EVIDENCE 4

Chapter -4 AUDIT EVIDENCE

Question 1 : Auditing is a logical process. An auditor is called upon to assess the actualities of the
situation, review the statements of account and give an expert opinion about the truth and
fairness of such accounts. This he cannot do unless he has examined the financial statements
objectively. He needs evidence to obtain information for arriving at his judgment. Discuss
explaining clearly the meaning of audit evidence in detail. (MTP 4 Marks Oct’23, RTP Nov ’19)
Answer 1 : Auditing is a logical process. An auditor is called upon to assess the actualities of the
situation, review the statements of account and give an expert opinion about the truth and fairness
of such accounts. This he cannot do unless he has examined the financial statements objectively.
Objective examination connotes critical examination and scrutiny of the accounting statements of
the undertaking with a view to assessing how far the statements present the actual state of affairs in
the correct context and whether they give a true and fair view about the financial results and state
of affairs. An opinion founded on a rather reckless and negligent examination and evaluation may
expose the auditor to legal action with consequential loss of professional standing and prestige.
He needs evidence to obtain information for arriving at his judgment.
Audit evidence may be defined as the information used by the auditor in arriving at the conclusions
on which the auditor’s opinion is based. Audit evidence includes both information contained in the
accounting records underlying the financial statements and other information.
Explaining this further, audit evidence includes:-
(1) Information contained in the accounting records: Accounting records include the records of
initial accounting entries and supporting records, such as checks and records of electronic
fund transfers; invoices; contracts; the general and subsidiary ledgers, journal entries and
other adjustments to the financial statements that are not reflected in journal entries; and
records such as work sheets and spreadsheets supporting cost allocations, computations,
reconciliations and disclosures.
(2) Other information that authenticates the accounting records and also supports the auditor’s
rationale behind the true and fair presentation of the financial statements: Other
information which the auditor may use as audit evidence includes, for example minutes of
the meetings, written confirmations from trade receivables and trade payables, manuals
containing details of internal control etc. A combination of tests of accounting records and
other information is generally used by the auditor to support his opinion on the financial
statements.
Question 2 : Audit evidence is necessary to support the auditor’s opinion and report. It is
cumulative in nature and is primarily obtained from audit procedures performed during the
course of the audit. Most of the auditor’s work in forming the auditor’s opinion consists of
obtaining and evaluating audit evidence. Explain (RTP Nov ’19 & Nov ’18,)
Answer 2 : Audit evidence is necessary to support the auditor’s opinion and report. It is cumulative
in nature and is primarily obtained from audit procedures performed during the course of the
audit. It may, however, also include information obtained from other sources such as

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previous audits. In addition to other sources inside and outside the entity, the entity’s accounting
records are an important source of audit evidence. Also, information that may be used as audit
evidence may have been prepared using the work of a management’s expert. Audit evidence
comprises both information that supports and corroborates management’s assertions, and any
information that contradicts such assertions. In addition, in some cases the absence of information
(for example, management’s refusal to provide a requested representation) is used by the auditor,
and therefore, also constitutes audit evidence.
Most of the auditor’s work in forming the auditor’s opinion consists of obtaining and evaluating
audit evidence. Audit procedures to obtain audit evidence can include inspection, observation,
confirmation, recalculation, re-performance and analytical procedures, often in some combination,
in addition to inquiry. Although inquiry may provide important audit evidence, and may even
produce evidence of a misstatement, inquiry alone ordinarily does not provide sufficient audit
evidence of the absence of a material misstatement at the assertion level, nor of the operating
effectiveness of controls.
As explained in SA 200, “Overall Objectives of the Independent Auditor and the Conduct of an Audit
in Accordance with Standards on Auditing”, reasonable assurance is obtained when the auditor has
obtained sufficient appropriate audit evidence to reduce audit risk (i.e., the risk that the auditor
expresses an inappropriate opinion when the financial statements are materially misstated) to an
acceptably low level. The sufficiency and appropriateness of audit evidence are interrelated.

Question 3 : In most of the assertions much of the evidence be drawn and each one should be
considered and weighed to ascertain its weight to prove or disprove the assertion. An auditor picks
up evidence froma variety of fields. Analyse and explain with the help of examples. (RTP Nov’20)
(Chapter No 2 Audit programme )

Answer 4 : In most of the assertions much of the evidence be drawn and each one should be
considered and weighed to ascertain its weight to prove or disprove the assertion.

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In this process, an auditor would be in a position to identify the evidence that brings the highest
satisfaction to him about the appropriateness or otherwise of the assertion.
An auditor picks up evidence from a variety of fields and it is generally of the following broad types:
a. Documentary examination,
b. Physical examination,
c. Statements and explanation of management, officials and employees,
d. Statements and explanations of third parties,
e. Arithmetical calculations by the auditor,
f. State of internal controls and internal checks,
g. Inter-relationship of the various accounting data,
h. Subsidiary and memorandum records,
i. Minutes,
j. Subsequent action by the client and by others.
Example
1. For cash in hand, the best evidence is ‘count’
2. For investment pledged with a bank, the banker’s certificate.
3. For verifying assertions about book debts, the client’s ledger invoices, debit notes, credit
notes, monthly accounts statement sent to the customers are all evidence: some of these
are corroborative, other being complementary. In addition, balance confirmation
procedure is often resorted to, to obtain greater satisfaction about the reliability of the
assertion.
The auditor, however, has to place appropriate weight on each piece of evidence and accordingly
should prescribe the priority of verification. It is true that in al l cases one procedure may not bring
the highest satisfaction and it may be dangerous for the auditor to ignore any evidence that is
available. By the word “available” we do not mean that the evidence available with the client is the
only available evidence. The auditor should know what normally should be available in the context of
the transaction having regardto the circumstances and usage.

Question 4 : When information to be used as audit evidence has been prepared using the work of
a management’s expert and having regard to the significance of expert’s work for the auditor’s
purposes, explain the considerations auditor would consider for the purposes of his audit. (RTP
May ’21)
Answer 4 : When information to be used as audit evidence has been prepared using the work of a
management’sexpert, the auditor shall, to the extent necessary, having regard to the significance of
that expert’s workfor the auditor’s purposes:
i. Evaluate the competence, capabilities and objectivity of that expert;
ii. Obtain an understanding of the work of that expert; and
iii. Evaluate the appropriateness of that expert’s work as audit evidence for the relevant
assertion.

Question 5 : Audit evidence includes both information contained in the accounting records
underlying the financial statements and other information. Discuss. (RTP May ’18)
Answer 5 : Audit evidence may be defined as the information used by the auditor in arriving at the
conclusions onwhich the auditor’s opinion is based. Audit evidence includes both information
contained in the accounting records underlying the financial statements and other information.
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Explaining this further, audit evidence includes: -

1. Information contained in the accounting records: Accounting records include the records of
initial accounting entries and supporting records, such as checks and records of electronic fund
transfers; invoices; contracts; the general and subsidiary ledgers, journal entries and other
adjustments to the financial statements that are not reflected in journal entries; and records
such as work sheets and spreadsheets supporting cost allocations, computations,
reconciliations and disclosures.
2. Other information that authenticates the accounting records and also supports the auditor’s
rationale behind the true and fair presentation of the financial statements: Other
information which the auditor may use as audit evidence includes, for example minutes of the
meetings, written confirmations from trade receivables and trade payables, manuals
containing details of internal control etc. A combination of tests of accounting records and
other information is generally used by the auditor to support his opinion on the financial
statements.

Question 6 : While conducting the audit of Pummy Limited, the statutory auditors collected
written representations from the Management. The audit was finalized in addition to other audit
procedures but, without making any inquiries, as the statutory auditors were short of time. In the
light of this information, state the importance of inquiry as one of the methods of collecting Audit
Evidence. (RTP May ’22)
OR
Evaluating responses to inquiries is an integral part of the inquiry process. Explain. (RTP May ’18)
Answer 6 : Inquiry: As per SA 500 Audit Evidence:-
i. Inquiry consists of seeking information of knowledgeable persons, financial and non- financial,
within the entity or outside the entity. Inquiry is used extensively throughout the audit in
addition to other audit procedures.

ii. Inquiries may range from formal written inquiries to informal oral inquiries. Evaluating
responses to inquiries is an integral part of the inquiry process.

iii. Responses to inquiries may provide the auditor with information not previously possessed or
with corroborative audit evidence. Alternatively, responses might provide information that
differs significantly from other information that the auditor has obtained.

iv. Although corroboration of evidence obtained through inquiry is often of particular importance,
in the case of inquiries about management intent, the information available to support
management’s intent may be limited. In these cases, understanding management’s past history
of carrying out its stated intentions, management’s stated reasons for choosing a particular
course of action, and management’s ability to pursue a specific course of action may provide
relevant information to corroborate the evidence obtained through inquiry.

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Question 7 : Manya Textiles is manufacturer of bed sheets, curtain cloths, other handloom items
etc. having its plant at Panipat. Auditors SJ & Co. is having doubts over the reliability of
information given to him as audit evidence. Also, auditors observed inconsistent information
while conducting audit. Guide the auditor as to how they should proceed in the given situation.
(RTP Nov’22)
Answer 7 : If:
a. audit evidence obtained from one source is inconsistent with that obtained from another; or
b. the auditor has doubts over the reliability of information to be used as audit evidence, the
auditor shall determine what modifications or additions to audit procedures are necessary to
resolve the matter, and shall consider the effect of the matter, if any, on other aspects of the
audit.

Question 8: CA K audited the books of accounts of E Ltd. for the financial year 2020 -2021. The
auditor used an audit procedure according to which all the documents and records maintained by
the company were checked in detail to obtain audit evidence. Explain the audit procedure used by
the auditor and its reliability. (3 Marks, Dec’21)
Answer 8: Audit Procedure:
Inspection involves examining records or documents, whether internal or external, in paper form,
electronic form, or other media, or a physical examination of an asset. Inspection of records and
documents provides audit evidence of varying degrees of reliability, depending on their nature and
source and, in the case of internal records and documents, on the effectiveness of the controls over
their production.

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inspecting an executed contract may provide audit evidence relevant to the entity’s application of
accounting policies, such as revenue recognition. Inspection of tangible assets may provide reliable
audit evidence with respect to their existence, but not necessarily about the entity’s rights and
obligations or the valuation of the assets. Inspection of individual inventory items may accompany
the observation of inventory counting.
In view of above, it can be concluded that CA K used Inspection as an audit procedure.

Question 9 : SPR Ltd has been into the media business since 1990. During the F.Y 2021-2022 many
notices were received by the company for hurting public sentiments and financial claims were
filed against the company. As an auditor of the company, you requested the management for
arranging the meeting with company's external legal counsel. Management is of the view that such
meetings are necessary in some certain circumstances only. Can you list down those certain
circumstances? (3 Marks May’22)
Answer 9 : Circumstances when becoming necessary to meet with external legal counsel: In the
given case of SPR Ltd., Auditor requested the management for meeting with SPR’s external legal
counsel.
In certain circumstances, the auditor also may judge it necessary to meet with the entity’s external
legal counsel to discuss the likely outcome of the litigation or claims.
This may be the case, for example, where:
(i) The auditor determines that the matter is a significant risk.
(ii) The matter is complex.
(iii) There is disagreement between management and the entity’s external legal counsel.
Ordinarily, such meetings require management’s permission and are held with a representative of
management in attendance.

Question 10 : The objective of auditing is to design and perform audit procedures in such a way
as to enable the auditor to obtain sufficient appropriate audit evidence to be able to draw
reasonable conclusions on which to base the auditor's opinion. This can be obtained by performing
which procedures? Name the types of audit procedures the auditor can perform to obtain audit
evidence? ( 4 Marks Nov 22)
Answer 10 : Audit Procedures to Obtain Audit Evidence: Audit evidence to draw reasonable
conclusions on which tobase the auditor’s opinion is obtained by performing:
(I) Risk assessment procedures; and
(II) Further audit procedures, which comprise:
i. Test of controls, when required by the SAs or when the auditor has chosen to do so; and
Substantive procedures, including tests of details and substantive analytical procedures.
ii.
Audit procedures to obtain audit evidence can include
(a) Inspection
(b) Observation
(c) External Confirmation
(d) Recalculation
(e) Reperformance

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(f) Analytical Procedures

(g) Inquiry

Question 11 : Explain the meaning, objectives and scope of internal audit functions as per SA 610.
Also discuss who can be appointed as Internal Auditor? (RTP May ‘19)
Answer 11 : Who can be appointed as Internal Auditor? As per section 138, the internal auditor
shall either be a chartered accountant or a cost accountant (whether engaged in practice or not), or
such other professional as may be decided by the Board to conduct internal audit of the functions
and activities of the companies. The internal auditor may or may not be an employee of the
company.
Internal audit function: A function of an entity that performs assurance and consulting activities
designed to evaluate and improve the effectiveness of the entity’s governance, risk management
and internal control processes.
The objectives and scope of internal audit functions: As per SA-610, “Using the Work of an Internal
Auditor”, the objectives of internal audit functions vary widely and depend on the size and structure
of the entity and the requirements of management and, where applicable, those charged with
governance.
The objectives and scope of internal audit functions typically include assurance and consulting
activities designed to evaluate and improve the effectiveness of the entity’s governance processes,
risk management and internal control such as the following:
1. Activities Relating to Governance: The internal audit function may assess the governance
process in its accomplishment of objectives on ethics and values, performance management and
accountability, communicating risk and control information to appropriate areas of the
organization and effectiveness of communication among those charged with governance,
external and internal auditors, and management.
2. Activities Relating to Risk Management: The internal audit function may assist the entity by
identifying and evaluating significant exposures to risk and contributing to the improvement of
risk management and internal control (including effectiveness of the financial reporting process).
The internal audit function may perform procedures to assist the entity in the detection of
fraud.
3. Activities Relating to Internal Control
i. Evaluation of internal control. The internal audit function may be assigned specific
responsibility for reviewing controls, evaluating their operation and recommending
improvements thereto. In doing so, the internal audit function provides assurance on the
control. For example, the internal audit function might plan and perform tests or other
procedures to provide assurance to management and those charged with governance
regarding the design, implementation and operating effectiveness of internal control,
including those controls that are relevant to the audit.
ii. Examination of financial and operating information. The internal audit function may be
assigned to review the means used to identify, recognize, measure, classify and report
financial and operating information, and to make specific inquiry into individual items,
including detailed testing of transactions, balances and procedures.
iii. Review of operating activities. The internal audit function may be assigned to review the
economy, efficiency and effectiveness of operating activities, including nonfinancial
activitiesof anentity.

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Review of compliance with laws and regulations. The internal audit function may be assigned to
review compliance with laws, regulations and other external requirements, and with management
policies and directives and other internal requirements.

Question 12: Explain whether the following statements are correct or incorrect, with reasons/
explanations/ examples The objectives and scope of internal audit functions are restricted to
activities relating to evaluation of internal control only. (2 Marks Jan ‘21)
Answer 12 : Incorrect: As per SA-610, “Using the Work of an Internal Auditor”, the objectives of
internal audit functions vary widely and depend on the size and structure of the entity and the
requirements of management and, where applicable, those charged with governance.
The objectives and scope of internal audit functions typically include assurance and consulting
activities designed to evaluate and improve the effectiveness of the entity’s governance processes,
risk management and internal control.
From the above, it can be concluded that the objective and scope of internal audit function are not
restricted to activities relating to evaluation of control only.

Question 13 : The sample size can be determined by the application of a statistically -based
formula or through the exercise of professional judgment. When circumstances are similar, the
effect on sample size of factors will be similar regardless of whether a statistical or non-statistical
approach is chosen.
Explain Stating the examples of factors that the auditor may consider when determining the
sample size for tests of controls. (MTP 5 Marks Oct 18 , MTP 4 Marks March’19 , MTP 3 Marks May
‘20)
Answer 13 : The level of sampling risk that the auditor is willing to accept affects the sample size
required. The lower the risk the auditor is willing to accept, the greater the sample size will need to
be.
The sample size can be determined by the application of a statistically-based formula or through the
exercise of professional judgment. When circumstances are similar, the effect on sample size of
factors will be similar regardless of whether a statistical or non-statistical approach is chosen.
Examples of Factors Influencing Sample Size for Tests of Controls: The following are factors that the
auditor may consider when determining the sample size for tests of controls. These factors, which
need to be considered together, assume the auditor does not modify the nature or timing of tests of
controlsor otherwise modify the approach to substantive procedures in response to assessed risks.
 When there is an increase in the extent to which the auditor’s risk assessment takes into account
relevant controls. The more assurance the auditor intends to obtain from the operating
effectiveness of controls, the lower the auditor’s assessment of the risk of material misstatement
will be, and the larger the sample size will need to be. When the auditor’s assessment of the risk
of material misstatement at the assertion level includes an expectation of the operating
effectiveness of controls, the auditor is required to perform tests of controls. Other things being
equal, the greater the reliance the auditor places on the operating effectiveness of controls in the
risk assessment, the greater is the extent of the auditor’s tests of controls (and therefore, the
sample size is increased). Thus, sample size will increase.
 If there is an increase in the tolerable rate of deviation. Then sample size will decrease, as lower
the tolerable rate of deviation, larger the sample size needs to be.

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 When there is an increase in the expected rate of deviation of the population to be tested then
sample size will increase, as higher the expected rate of deviation, larger the sample size needs to
be so that the auditor is in a position to make a reasonable estimate of the actual rate of
deviation. Factors relevant to the auditor’s consideration of the expected rate of deviation include
the auditor’s understanding of the business (in particular, risk assessment procedures undertaken
to obtain an understanding of internal control), changes in personnel or in internal control, the
results of audit procedures applied in prior periods and the results of other audit procedures.
High expected control deviation rates ordinarily warrant little, if any, reduction of the assessed
risk of material misstatement.
 An increase in the auditor’s desired level of assurance that the tolerable rate of deviation is not
exceeded by the actual rate of deviation in the population will increase the sample size. Thus, the
greater the level of assurance that the auditor desires that the results of the sample are in fact
indicative of the actual incidence of deviation in the population, the larger the sample size needs
to be.
 In case of large populations, the actual size of the population has little, if any, effect on sample
size. For small populations however, audit sampling may not be as efficient as alternative means
of obtaining sufficient appropriate audit evidence. Therefore, there will be negligible effect on
sample size due to increase in the number of sampling units in the population.

Question 14 : XYZ Ltd is engaged in trading of electronic goods and having huge accounts
receivables. For analysing the whole accounts receivables, auditor wanted to use sampling
technique. In considering the characteristics of the population from which the sample will be
drawn, the auditor determines that stratification or value-weighted selection technique is
appropriate. SA 530 provides guidance to the auditor on the use of stratification and value-
weighted sampling techniques. Advise the auditor in accordance with SA 530. (MTP 4 Marks Oct
19, RTP May 18)
Answer 14 : Stratification and Value-Weighted Selection: In considering the characteristics of the
population from which the sample will be drawn, the auditor may determine that stratification or
value-weighted selection technique is appropriate. SA 530 provides guidance to the auditor on the
use of stratification and value-weighted samplingtechniques.
Stratification: Audit efficiency may be improved if the auditor stratifies a population by dividing it
into discrete sub-populations which have an identifying characteristic. The objective of stratification
is to reduce the variability of items within each stratum and therefore allow sample size to be
reduced without increasing sampling risk.
When performing tests of details, the population is often stratified by monetary value. This allows
greater audit effort to be directed to the larger value items, as these items may contain the greatest
potential misstatement in terms of overstatement. Similarly, a population may be stratified
according to a particular characteristic that indicates a higher risk of misstatement, for example,
when testing the allowance for doubtful accounts in the valuation of accounts receivable, balances
may be stratified by age.
The results of audit procedures applied to a sample of items within a stratum can only be projected
to the items that make up that stratum. To draw a conclusion on the entire population, the auditor
will need to consider the risk of material misstatement in relation to whatever other strata make up
the entire population.

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For example, 20% of the items in a population may make up 90% of the value of an account balance.
The auditor may decide to examine a sample of these items. The auditor evaluates the results of
this sample and reaches a conclusion on the 90% of value separately from the remaining 10% (on
which a further sample or other means of gathering audit evidence will be used, or which may be
considered immaterial).
If a class of transactions or account balance has been divided into strata, the misstatement is
projected for each stratum separately. Projected misstatements for each stratum are then combined
when considering the possible effect of misstatements on the total class of transactions or
account balance.
Value-Weighted Selection: When performing tests of details it may be efficient to identify the
sampling unit as the individual monetary units that make up the population. Having selected specific
monetary units from within the population, for example, the accounts receivable balance, the
auditor may then examine the particular items, for example, individual balances, that contain
those monetary units. One benefit of this approach to defining the sampling unit is that audit effort
is directed to the larger value items because they have a greater chance of selection, and can result
in smaller sample sizes.
This approach may be used in conjunction with the systematic method of sample selection and is
most efficient when selecting items using random selection.

Question 15 : Audit testing done through Statistical sampling is more scientific than testing based
entirely on the auditor’s own judgment because it involves use of mathematical laws of probability
in determining the appropriate sample size in varying circumstances. Explain and also state
advantages of Statistical sampling. (MTP 4 Marks Oct 20)
Answer 15 :
1. The amount of testing (sample size) does not increase in proportion to the increase in the
size ofthe area (universe) tested.
2. The sample selection is more objective and thereby more defensible.
3. The method provides a means of estimating the minimum sample size associated with a
specifiedrisk and precision.
4. It provides a means for deriving a “calculated risk” and corresponding precision (sampling
error) i.e. the probable difference in result due to the use of a sample in lieu of examining all
the records in the group (universe), using the same audit procedures.
5. It may provide a better description of a large mass of data than a complete examination of all
the data, since non-sampling errors such as processing and clerical mistakes are not as large.
6. It is widely accepted way of sampling as it is more scientific, without personal bias and the
result ofsample can be evaluated and projected in more reliable way.

Question 16 : State the requirements relating to audit sampling, sample design, sample size and
selection of items for testing. (MTP 4 Marks Oct ’21, RTP Nov 22, Old & New SM)
Answer 16: Audit Sampling: As per SA 530 on “Audit Sampling”, the meaning of the term Audit
Sampling is – the application of audit procedures to less than 100% of items within a population of
audit relevance such that all sampling units have a chance of selection in order to provide the
auditor with a reasonable basison which to draw conclusions about the entire population.
The requirements relating to sample design, sample size and selection of items for testing are
explainedbelow-

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Sample design - When designing an audit sample, the auditor shall consider the purpose of the
auditprocedure and the characteristics of the population from which the sample will be drawn.
Sample Size- The auditor shall determine a sample size sufficient to reduce sampling risk to an
acceptably low level.
Selection of Items for Testing- The auditor shall select items for the sample in such a way that
eachsampling unit in the population has a chance of selection.

Question 17 : CA X is not sure about the kind of Sampling method to be used for audit of a
company. Advise him about the choice of methods (name of methods only) of Sampling to be
used in various circumstances. Also explain briefly the advantages of the Sampling to be used by
him in auditing. (MTP 3 Marks Nov ‘21)
Answer 17 : Sample Selection:
CA. X should obtain the knowledge before using the sampling methods. The principal methods are
as follows:
1. Random selection.
2. Systematic selection.
3. Monetary Unit sampling.
4. Haphazard selection.
5. Block selection.
Advantages of Statistical Sampling in Auditing:
i. The amount of testing (sample size) does not increase in proportion to the increase in the size
of the area (universe) tested.
ii. The sample selection is more objective and thereby more defensible.
iii. The method provides a means of estimating the minimum sample size associated with a
specified risk and precision.
iv. It provides a means for deriving a "calculated risk" and corresponding precision (sampling
error) i.e. the probable difference in result due to the use of a sample in lieu of examining
all therecords in the group (universe), using the same audit procedures.
v. It may provide a better description of a large mass of data than a complete examination of all
the data, since non-sampling errors such as processing and clerical mistakes are not as large.

Question 18 : ABC Ltd is a Large Company with huge purchase and sales transactions. Which
sampling approach is recommended in such a company? Explain giving features of such sampling
approach along with example (MTP 3 Marks March 22)
Answer 18 : In larger organisations, with huge transactions, statistical sampling is always
recommended as it is unbiased, and the samples selected are not prejudged.
Features/Characteristics of Statistical Sampling:
1. Audit testing done through this approach is more scientific than testing based entirely on the
auditor’s own judgment because it involves use of mathematical laws of probability in
determining the appropriate sample size in varying circumstances.
2. Statistical sampling has reasonably wide application where a population to be tested consists of a
large number of similar items and more in the case of transactions involving compliance testing,
trade receivables’ confirmation, payroll checking, vouching of invoices and petty cash vouchers.
3. There Is no personal bias of the auditor in case of statistical sampling. Since it is scientific, the
results of sample can be evaluated and projected on the whole population in a more reliable
manner.

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For Example: An auditor while verifying the Purchases during the year realised that the purchase
transactions in that year are more than 45000 in number, then in such case, statistical sampling will
be highly recommended in the audit program. Random Sampling (discussed ahead in this topic) is
the method you decide to choose sample in such a situation.

Question 19 : There is a growing realisation that the traditional approach to audit is economically
wasteful because all efforts are directed to check all transactions without exception. Explain. (MTP 4
Marks April 22, RTPNov 19)
Answer 19 : No conscious effort in human society is divested of economic considerations and
auditing is no exception. There is a growing realisation that the traditional approach to audit is
economically wasteful because all efforts are directed to check all transactions without exception.
This invariably leads to more emphasis on routine checking, which often is not necessary in view of
the time and the cost involved. With the shift in favour of formal internal controls in the
management of affairs of organisations, the possibilities of routine errors and frauds have greatly
diminished and auditors often find extensive routine checking as nothing more than a ritual because
it seldom reveals anything material. Now the approach to audit and the extent of checking are
undergoing a progressive change in favour of more attention towards the questions of principles and
controls with a curtailment of non-consequential routine checking. By routine checking we
traditionally think of extensive checking and vouching of all entries.

Question 20 : It is imperative for the auditor to project misstatements for the population while
performing audit procedures through sampling. Comment. (MTP 3 Marks Oct’23, PYP 3 Marks,
Nov ’20, RTP May 20 ,May ’19 & Nov 23)
Answer 20 :
i. The auditor is required to project misstatements for the population to obtain a broad view of
the scale of misstatement but this projection may not be sufficient to determine an amount to
be recorded.
ii. When a misstatement has been established as an anomaly, it may be excluded when
projecting misstatements to the population. However, the effect of any such misstatement, if
uncorrected, still needs to be considered in addition to the projection of the non-anomalous
misstatements.
iii. For tests of details, the auditor shall project misstatements found in the sample to the
population whereas for tests of controls, no explicit projection of deviations is necessary since
the sample deviation rate is also the projected deviation rate for the population as a whole.

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Question 21 : Explain the sampling method which involves selection of a block(s) of contiguous
items from within the population. Also give example (RTP May ’20)
Answer 21 : Block Sampling: This method involves selection of a block(s) of contiguous items from
within the population. Block selection cannot ordinarily be used in audit sampling because most
populations are structured such that items in a sequence can be expected to have similar
characteristics to each other, but different characteristics from items elsewhere in the population.
Although in some circumstances it may be an appropriate audit procedure to examine a block of
items, it would rarely be an appropriate sample selection technique when the auditor intends to
draw valid inferences about the entire population based on the sample.
Example
Take the first 200 sales invoices from the sales day book in the month of September; alternatively
take any four blocks of 50 sales invoices. Therefore, once the first item in the block is selected, the
rest of theblock follows items to the completion.

Question 22 : Explain the factors that should be considered for deciding upon the extent of
checking on a samplingplan. (RTP Nov’20 & May 19, PYP 5 Marks Nov ’18, Old & New SM)
Answers 22 : The factors that should be considered for deciding upon the extent of checking on a
sampling plan are following:
(i) Size of the organization under audit.
(ii) State of the internal control.
(iii) Adequacy and reliability of books and records.
(iv) Tolerable error range.
(v) Degree of the desired confidence.

Question 23 : Explain the following terms with reference to Audit Sampling:

i. Stratification
ii. Tolerable misstatement
iii. Tolerable rate of deviation (RTP May ’21)
Answers 23 : Stratification – The process of dividing a population into sub-populations, each of
which is a group ofsampling units which have similar characteristics (often monetary value).
i. Tolerable misstatement – A monetary amount set by the auditor in respect of which the
auditor seeks to obtain an appropriate level of assurance that the monetary amount set by the
auditor is not exceeded by the actual misstatement in the population.
ii. Tolerable rate of deviation – A rate of deviation from prescribed internal control procedures set by
the auditor in respect of which the auditor seeks to obtain an
iii. appropriate level of assurance that the rate of deviation set by the auditor is not exceeded by the
actual rate of deviation in the population.

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Question 24 : Chintamani Ltd appoints Chintan & Mani as statutory auditors for the financial year
2022- 2023. Chintan & Mani seem to have different opinion on audit approach to be adopted for
audit of Chintamani Ltd. Mani is of the opinion that 100% checking is not required and they can
rely on Audit Sampling techniques in order to provide them a reasonable basis on which they can
draw conclusions about theentire population.
Chintan is concerned whether the use of audit sampling has provided a reasonable basis for
conclusions about the population that has been tested.
You are required to guide Chintan about his role if audit sampling has not provided a reasonable
basis for conclusions about the population that has been tested in accordance with SA 530. (RTP
Nov ’23)
Answer 24 : As per SA 530, “Audit Sampling”, the auditor shall evaluate:
a. The results of the sample; and
b. Whether the use of audit sampling has provided a reasonable basis for conclusions about the
population that has been tested.
If the auditor concludes that audit sampling has not provided a reasonable basis for conclusions
about the population that has been tested, the auditor may:
i. Request management to investigate misstatements that have been identified and the potential
for further misstatements and to make any necessary adjustments; or
ii. Tailor the nature, timing and extent of those further audit procedures to best achieve the
required assurance. For example, in the case of tests of controls, the auditor might extend the
sample size, test an alternative control or modify related substantive procedures.

Question 25 : With reference to SA 530 “Audit Sampling”, explain briefly the following factors that
the auditor mayconsider when determining the sample size for the Test of Details –
i. The desired level of assurance
ii. Stratification of the population. (3 Marks Dec ‘21)
Answer 25 : Examples of factors influencing Sample Size for Test of Details:
i. Desired Level of Assurance: An increase in the auditor’s desired level of assurance that
tolerable misstatement is not exceeded by actual misstatement in the population will increase
the sample size. Hence, greater the level of assurance that the auditor requires that the results
of the sample are in fact indicative of the actual amount of misstatement in the population,
the larger the sample size needs to be.
ii. Stratification of population: Stratification of the population would result in reducing the
sample sizewithout increasing the sample risk.

Question 26 : Krishna Cycles Ltd is engaged in manufacturing of different type of Bicycles.

Ongoing through its financial statements for the past years, it is observed that inventory is
material to the financial statements. You as an auditor of the company wanted to obtain sufficient
appropriate audit evidence regarding the existence and condition of the inventory as appearing in
the financial statements. Discuss, how would you proceed as an auditor. (MTP 5 Marks Aug ’18 &
Oct 18, March 19, May 20)

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Answer : When inventory is material to the financial statements, the auditor shall obtain sufficient
appropriateaudit evidence regarding the existence and condition of inventory by:
a. 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; and
b. Performing audit procedures over the entity’s final inventory records to determine whether
they accurately reflect actual inventory count results.

Question 27 : While conducting audit of Vee Ltd, CA Aman, auditor of the company, found that
some goods are lying with third party for a long period. Advise Aman how will he verify them.
(MTP 4 Marks Oct ‘21)
Answer 27 :

When inventory under the custody and control of a third party is:
1. Request confirmation from the third party as to the quantities and condition of inventory held on
behalf of the entity.
2. Perform inspection or other audit procedures appropriate in the circumstances.

Question 28 : TRM Ltd. is a company engaged in manufacture of beauty products. It has hair care
segment, skin care segment and kids’ beauty products. The auditor wants to obtain sufficient
appropriate audit evidence regarding the presentation and disclosure of segment information in
accordance with the applicable financial reporting framework. Suggest the audit procedures in
the given case. (MTP 4 Marks March ‘21)
Answer 28 : The auditor shall obtain sufficient appropriate audit evidence regarding the
presentation and disclosure of segment information in accordance with the applicable financial
reporting framework by :

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1. Obtaining an understanding of the methods used by management in determining segment

information. Further,
i. Evaluating whether such methods are likely to result in disclosure in accordance with
the applicable financial reporting framework; and
ii. Where appropriate, testing the application of such methods; and
2. Performing analytical procedures or other audit procedures appropriate in the circumstances.

Question 29 : GPS & Co, Chartered Accountants, conducting the audit of Pratibha Ltd., a listed
company for the year ended 31.03.2022 is concerned with the presentation and disclosure of
segment information included in Company's Annual Report. GPS & Co wanted to ensure that
methods adopted by management for determining segment information have resulted in
disclosure in accordance with the applicable financial reporting framework. Guide GPS & Co with
'Examples of Matters' that may be relevant when obtaining an understanding of the methods
used by the management with reference to the relevant Standards on Auditing. (RTP May ’22)
Answer 29 : The auditors, GPS & Co wanted to ensure and obtain sufficient appropriate audit
evidence regarding the presentation and disclosure of segment information in accordance with the
applicable financial reporting framework by obtaining an understanding of the methods used by
management in determining segment information. SA 501 guides in this regard. As per SA 501-
“Audit Evidence— Specific Considerations for Selected Items”, example of matters that may be
relevant when obtaining an understanding of the methods used by management in determining
segment information and whether such methods are likely to result in disclosure in accordance with
the applicable financial reporting framework include:
i. Sales, transfers and charges between segments, and elimination of inter - segment amounts.
ii. Comparisons with budgets and other expected results, for example, operating profits as a
percentage of sales.
iii. The allocation of assets and costs among segments.
iv. Consistency with prior periods, and the adequacy of the disclosures with respect to
inconsistencies.

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Question 30 : When using external confirmation procedures, the auditor shall maintain control
over external confirmation requests including sending the requests, including follow -up requests
when applicable, to the confirming party. Explain the other points as to when using external
confirmation procedures, the auditor would be required to maintain control over external
confirmation requests. (RTP May ’20, Old & New SM)
Answer 30 : When using external confirmation procedures, the auditor shall maintain control over
externalconfirmation requests, including:
a. Determining the information to be confirmed or requested;
b. Selecting the appropriate confirming party;
c. Designing the confirmation requests, including determining that requests are properly
addressed and contain return information for responses to be sent directly to the auditor; and
d. Sending the requests, including follow-up requests when applicable, to the confirming party.

Question 31 : Define the following:

i. Positive confirmation request
ii. Negative confirmation request
iii. Non-response
iv. Exception
Answer 31 :
Positive confirmation request – A request that the confirming party respond directly to the auditor
indicating whether the confirming party agrees or disagrees with the information in the request, or
providing the requested information.
Negative confirmation request – A request that the confirming party respond directly to the auditor
only if the confirming party disagrees with the information provided in the request .
Non-response – A failure of the confirming party to respond, or fully respond, to a positive
confirmation request, or a confirmation request returned undelivered.
Exception – A response that indicates a difference between information requested to be confirmed,
or contained in the entity’s records, and information provided by the confirming party.

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Question 32 : CA Rohit is appointed as an auditor of Grace Ltd., he wants to design a suitable

confirmation request letter for a few debtors of Grace Ltd. As a senior auditor of the firm, explain
to him with reference to SA 505 "External Confirmation" all the conditions that should be present
to use Negative Confirmation requests as the sole substantive audit procedure to address an
assessed risk of material misstatement at the assertion level. (PYP 4 Marks, july’21)
Answer 32 : Negative confirmations are a request that the confirming party respond directly to the
auditor only if the confirming party disagrees with the information provided in the request. Negative
information provides less persuasive audit evidence than positive confirmations. Accordingly, CA
Rohit, Auditor of Grace Ltd, shall not use negative confirmation requests as the sole substantive
audit procedure to address an assessed risk of material misstatement at the assertion level unless all
of the following are present :
a. The auditor has assessed the risk of material misstatement as low and has obtained sufficient
appropriate audit evidence regarding the operating effectiveness of controls relevant to the
assertion
b. The population of items subject to negative confirmation procedures comprises a large
number of small, homogeneous, account balances, transactions or conditions
c. A very low exception rate is expected; and
d. The auditor is not aware of circumstances or conditions that would cause recipients of negative
confirmation requests to disregard such requests.

Question 33 : CA P is the auditor of MN Ltd. While scrutinising the accounts of MN Ltd., he

observed that the company had large volume of Trade payable outstanding in the Balance sheet
as on 31st March, 2023 for which external confirmations are not available, CA P wants to send
external confirmation request to selected Trade payables but management of MN Ltd. refused
for the same. Discuss how CA P should deal in this regard as per relevant Standard on
Auditing.(PYP 4 Marks May ’23, PYP 4Marks, Nov’20)
Answer 33 : If management refuses to allow the auditor to send a confirmation request, CA P should
deal in this regard in the manner prescribed in SA 505 explained hereunder:
a. Inquire as to management’s reasons for the refusal and seek audit evidence as to their validity
and reasonableness;
b. Evaluate the implications of management’s refusal on the auditor’s assessment of the relevant
risks of material misstatement, including the risk of fraud, and on the nature, timing and extent
of other audit procedures; and
c. Perform alternative audit procedures designed to obtain relevant and reliable audit evidence.
If the auditor concludes that management’s refusal to allow the auditor to send a confirmation
request is unreasonable or the auditor is unable to obtain relevant and reliable audit evidence from
alternative audit procedures, the auditor shall communicate with those charged with governance in
accordance with SA 260.
The auditor shall also determine the implications for the audit and the auditor’s opinion in
accordance with SA 705.

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Question 34 : M/s PQR and associates are the statutory auditors of TUV Ltd. for the FY 2020- 21-.
They have been appointed as statutory auditors of TUV Ltd. for the first time. What is the
objective of the engagement partner in terms of SA 510? (Old & New SM)
Answer 34 : In conducting an initial audit engagement, the objective of the auditor with respect to
opening balances is to obtain sufficient appropriate audit evidence about whether:
a. Opening balances contain misstatements that materially affect the current period’s financial
statements; and
b. Appropriate accounting policies reflected in the opening balances have been consistently
appliedin the current period’s financial statements, or changes thereto are properly accounted
for and adequately presented and disclosed in accordance with the applicable financial
reporting framework.

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Question 35 : M/s Pankaj & Associates, Chartered Accountants, have been appointed as an
auditor of ABC Limited. CA Pankaj did not apply any audit procedures regarding opening
balances. He argued that since financial statements were audited by the predecessor auditor
therefore he is not required to verify them. Is CA Pankaj correct in his approach? (5 Marks, Nov
’18, Old & New SM)
Answer 35 : Initial audit engagement is an engagement in which either
i. The financial statements for the prior period were not audited; or
ii. The financial statements for the prior period were audited by a predecessor auditor.
From the above, it is quite clear that CA Pankaj is not correct in his approach and therefore would be
required to follow the initial audit engagement and also apply audit procedures regarding opening
balances.
Audit Procedures regarding Opening Balances; The auditor shall read the most recent financial
statements, if any, and the predecessor auditor’s report thereon, if any, for information relevant to
opening balances, including disclosures. The auditor shall obtain sufficient appropriate audit
evidence about whether the opening balances contain misstatements that materially affect the
current period’s financial statements by:
a. Determining whether the prior period’s closing balances have been correctly brought forward to the
current period or, when appropriate, any adjustments have been disclosed as prior period items in
the current year’s Statement of Profit and Loss;
b. Determining whether the opening balances reflect the application of appropriate accounting
policies; and
c. Performing one or more of the following:
I. Where the prior year financial statements were audited, perusing the copies of the audited
financial statements including the other relevant documents relating to the prior period
financial statements;
II. Evaluating whether audit procedures performed in the current period provide evidence
relevant to the opening balances; or
III. Performing specific audit procedures to obtain evidence regarding the opening balances.

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Question 36: The auditor has a responsibility to perform audit procedures to identify, assess and
respond to the risks of material misstatement arising from the entity’s failure to appropriately
account for related party relationships, transactions or balances.
During the audit, the auditor should maintain alertness for related party information while
reviewing records and documents. He may inspect the records or documents that may provide
information about related party relationships and transactions. Explain in detail with examples.
(RTP Nov ’21, MTP Oct’23)
Answer 36 : During the audit, the auditor should maintain alertness for related party information
while reviewing records and documents. He may inspect the following records or documents that
may provide information about related party relationships and transactions, for example :
1. Entity income tax returns.
2. Information supplied by the entity to regulatory authorities.
3. Shareholder registers to identify the entity’s principal shareholders.
4. Statements of conflicts of interest from management and those charged with governance.
5. Records of the entity’s investments and those of its pension plans.
6. Contracts and agreements with key management or those charged with governance.
7. Significant contracts and agreements not in the entity’s ordinary course of business.
8. Specific invoices and correspondence from the entity’s professional advisors.
9. Life insurance policies acquired by the entity.
10. Significant contracts re-negotiated by the entity during the period.
11. Internal auditors’ reports.
12. Documents associated with the entity’s filings with a securities regulator e.g., prospectuses)

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Question 37: The nature of related party relationships and transactions may, in some
circumstances, give rise to higher risks of material misstatement of the financial statements than
transactions with unrelated parties. Explain with the help of at least three examples. (RTP May’20,
Old & New SM)
Answer 37 : Many related party transactions are in the normal course of business. In such
circumstances, they may carry no higher risk of material misstatement of the financial statements than
similar transactions with unrelated parties. However, the nature of related party relationships and
transactions may, in some circumstances, give rise to higher risks of material misstatement of the
financial statements than transactions with unrelated parties.
Example
 Related parties may operate through an extensive and complex range of relationships and
structures,with a corresponding increase in the complexity of related party transactions.
 Information systems may be ineffective at identifying or summarizing transactions and
outstandingbalances between an entity and its related parties.
 Related party transactions may not be conducted under normal market terms and conditions;
for example, some related party transactions may be conducted with no exchange of
consideration.

Question 38 : CA Amar wants to verify the payments made by XYZ Ltd. on account of building rent
during the FY 2020-21. The rent amounts to Rs.50,000/- per month for the year. The monthly rent
payments are consistent with the rent agreement. However, the other companies in the similar
industry are paying rent of Rs. 10,000/- per month for a similar location. How will applying the
analytical procedures impact the verification process of such rental payments by XYZ Ltd.? (MTP
3 Marks April ’21, Old & New SM)
Answer 38: If CA Amar checks in detail the monthly rent payments, he may find that such payments
are consistent with the rent agreement i.e. XYZ Ltd. paid Rs. 50,000/- per month as rent and the
same is getting reflected in the rent agreement. Here, CA Amar may not be able to find out the
inconsistency in the rentpayment with respect to rent payment prevalent in the similar industry for

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rent of the similar location. If CA Amar applies analytical procedure i.e. compares the rent payment
by XYZ Ltd. with the similar payments made by companies in similar industry and similar area, he
will notice an inconsistency in such rent payments as the other companies are paying a very less
monthly rent in similar industry for similar area.
However, if CA Amar does not make such comparison and only checks the monthly payments and
rent agreement of XYZ Ltd., he would not have found such inconsistency and as such the
misstatement may remain undetected.

Question 39 : Mention the Analytical Review procedures that may be useful as a means of
obtaining audit evidence regarding various assertions relating to Trade receivables, loans and
advances. (MTP 4 Marks Oct ‘21)
Answer 39 : Analytical Review Procedures: The following analytical review procedures may often be
helpful as a means of obtaining audit evidence regarding the various assertions relating to trade
receivables, loans and advances-
i. comparison of closing balances of trade receivables, loans and advances with the
corresponding figures for the previous year;
ii. comparison of the relationship between current year trade receivable balances and the
currentyear sales with the corresponding budgeted figures, if available;
iii. comparison of actual closing balances of trade receivables, loans and advances with the
corresponding budgeted figures, if available;
iv. comparison of current year’s ageing schedule with the corresponding figures for the previous
year;
v. comparison of significant ratios relating to trade receivables, loans and advances with similar
ratios for other firms in the same industry, if available;
vi. comparison of significant ratios relating to trade receivables, loans and advances with
theindustry norms, if available.

Question 40 : Explain how a statutory auditor of a company can apply analytical procedures at the
planning phaseof audit. (MTP 3 Marks Nov ’21, Old & New SM)
Answer 40 : Analytical Procedures are required in the planning phase and it is often done during the
testing phase. In addition these are also required during the completion phase.
Analytical Procedures in Planning the Audit
In the planning stage, analytical procedures assist the auditor in understanding the client’s business
and in identifying areas of potential risk by indicating aspects of and developments in the entity’s
business of which he was previously unaware. This information will assist the auditor in determining
the nature, timing and extent of his other audit procedures. Analytical procedures in planning the
audit use both financial data and non-financial information, such as number of employees, square
feet of selling space, volume of goods produced and similar information.
For example, analytical procedures may help the auditor during the planning stage to determine the
nature, timing and extent of audit procedures that will be used to obtain audit evidence for specific
account balances or classes of transactions.

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Question 41 : Routine checks cannot be depended upon to disclose all the mistakes or
manipulation that may exist in accounts, certain other procedures also have to be applied like
trend and ratio analysis. Analyze and Explain stating clearly the meaning of analytical procedures.
(RTP Nov ’19)
Answer 41 : Since routine checks cannot be depended upon to disclose all the mistakes or
manipulation that may exist in accounts, certain other procedures also have to be applied like trend
and ratio analysis in addition to reasonable tests. These collectively are known as overall tests. With
the passage of tests, analytical procedures have acquired lot of significance as substantive audit
procedure. SA-520 on Analytical Procedures discusses the application of analytical procedures
during an audit.
Meaning of Analytical Procedures. As per the Standard on Auditing (SA) 520 “Analytical
Procedures”, the term “analytical procedures” means evaluations of financial information through
analysis of plausible relationships among both financial and non-financial data. Analytical
procedures also encompass such investigation as is necessary of identified fluctuations or
relationships that are inconsistent with other relevant information or that differ from expected
values by a significant amount.

Question 42 : Give examples of Analytical Procedures having consideration of comparisons of the

entity’s financial information (RTP Nov ‘19)
Answer 42 : Examples of Analytical Procedures having consideration of comparisons of the
entity’s financial information with are:
 Comparable information for prior periods.
 Antic pated results of the entity, such as budgets or forecasts, or expectations of the auditor,
such as an estimation of depreciation.
 Similar industry information, such as a comparison of the entity’s ratio of sales to accounts
receivable with industry averages or with other entities of comparable size in the same
industry.

Question 43 : When designing and performing substantive analytical procedures, either alone or
in combination with tests of details, as substantive procedures in accordance with SA 330, the
auditor shall determine the suitability of particular substantive analytical procedures for given
assertions, taking account of the assessed risks of material misstatement and tests of details, if
any, for these assertions. Explain the other relevant points in this context.(RTP May ’20)
Answer 43 : When designing and performing substantive analytical procedures, either alone or in
combination with tests of details, as substantive procedures in accordance with SA 330, the auditor
shall:
i. Determine the suitability of particular substantive analytical procedures for given assertions,
taking account of the assessed risks of material misstatement and tests of details, if any, for
these assertions;
ii. Evaluate the reliability of data from which the auditor’s expectation of recorded amounts or
ratios is developed, taking account of source, comparability, and nature and relevance of
information available, and controls over preparation.

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Anticipated results of the entity, such as budgets or forecasts, or expectations of the auditor, such

iii. Develop an expectation of recorded amounts or ratios and evaluate whether the expectation
is sufficiently precise to identify a misstatement that, individually or when aggregated with
other misstatements, may cause the financial statements to be materially misstated; and
iv. Determine the amount of any difference of recorded amounts from expected values that is
acceptable without further investigation.

Question 44 : For the purposes of the SAs, the term “analytical procedures” means evaluations of
financial information through analysis of plausible relationships among both financial and non-
financial data. Explain giving examples of both. (RTP Nov ’21)
Answer 44 : Analytical procedures include the consideration of comparisons of the entity’s financial
information with, for example:
 Comparable information for prior periods.
 Anticipated results of the entity, such as budgets or forecasts, or expectations of the auditor, such
as an estimation of depreciation.
 Similar industry information, such as a comparison of the entity’s ratio of sales to accounts
receivable with industry averages or with other entity is of comparable size in the same industry.
Analytical procedures also include consideration of relationships, for example:
 Among elements of financial information that would be expected to conform to a predictable
pattern based on the entity’s experience, such as gross margin percentages .
 Between financial information and relevant non-financial information, such as payroll costs
tonumber of employees.

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