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BAO3306 Auditing SUBSTANTIVE TESTS OF Victoria University

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Victoria University

BAO3306 Auditing SUBSTANTIVE TESTS OF Victoria University

Risk and substantive procedures
Differences between auditing income statement and balance sheet accounts
• Balance sheet accounts typically represent only recent transactions, or one-off transactions
– Balance sheet accounts are ‘permanent’ and their balance is carried forward from one period to
the next.
• Income statement accounts reflect sum of entire reporting period transactions
– Income statement accounts are ‘temporary’ and their balance is closed to the income account
at the end of each financial year.
• Testing balance sheet accounts do not provide much assurance about income statement accounts
• Difference in nature of account is reflected in difference in testing
– Typically use analytical procedures for income statement accounts rather than confirmations etc
Extent of substantive procedures
• As discussed for balance sheet accounts, extent of testing determined by risk assessment for each
significant account or disclosure
– High IR, CR: do not rely on and test controls, use significant amount of substantive testing to
reduce DR
– Low IR, CR: testing controls shows them to be effective, limited substantive testing required
Timing of substantive procedures
• Dependent on risk assessment of the account in question. Apart from the risk assessment of the
significant account there are additional opportunities for influencing the timing of the work performed.
Including: can perform some types of work prior to year-end, leverage off internal audit etc.
• Purchases are understated
• Not recording all purchase transactions
• Fraudulent purchases for private uses
• Incorrect quantities, damaged goods or incorrect items received
Substantive Testing
A. Pressure to achieve sales targets creates risk of overstatement
• High overall inherent risk, e.g. risk of manipulation to meet the sales targets, fraud
B. Also significant because:
• Material size
• High volume of transactions
C. Auditors usually either use only substantive testing techniques, or use controls testing supplemented
with high-level analytical procedures
Important Assertions
1. OCCURRENCE: Test recorded sales are bona fide and have occurred
2. ACCURACY: Sales are recorded at correct amount, not overstated
3. CUT-OFF: Risk that sales occur after year-end are recorded early (Test: to vouch the sale to the delivery
document – if delivered prior to year-end record as sales)
COMPLETENESS is not usually significant, except if pressure to increase next year’s sales
Total Revenue
Typically made up of: sales revenue, interest, dividend income,
They are tested by:
Sales Revenue: projects delivered to services that are not yet delivered to customers
Interest: Recalculation of expected interest income
Dividend Income: tested by vouching the dividends back to the dividend statement and the back statements
Other items not usually material
Sales Process
Principle Objectives
Impacting Processes
Types of Transactions: Sales and Sales returns and allowances
 These procedures would only be considered when the auditor has been unable test and rely upon
controls or they have determined that it is more efficient to test balances substantively
Income statement
Sales Returns
Bad Debts expense
Issues and risks
Overstatement of sales
Fictitious Sale
Significant due to size and volumn of
Revenue reconitiogn
Audit Procedures
Occurance – sales are genuien
Cutt off – record in correct period
Accuracy – record correct amount
Balance Sheet
Accounts receivable
Allowance for doubtful debts
o Sales and sales returns and allowances
o Consider evidence from interim testing, control testing phase
o If substantive testing required, use detailed testing such as vouching, tracing of documents,
recalculating pricing and discounts, testing postings


BAO3306 Auditing SUBSTANTIVE TESTS OF Victoria University

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