What are Audit Procedures?

Audit Procedure Methods

During the preliminary assessment process, an auditor is required to identify and ascertain the amount of risk involved and accordingly develop an audit plan. The audit plans should define these steps, which the auditor will apply to obtainAudit evidence is information gathered by auditors during the course of an audit, whether internal, statutory, or otherwise. These facts serve as the foundation for the opinion in the audit report.read more audit evidenceAudit EvidenceAudit evidence is information gathered by auditors during the course of an audit, whether internal, statutory, or otherwise. These facts serve as the foundation for the opinion in the audit report.read more.

They can be divided into two types:

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#1 – Substantive Audit Procedures

Substantive proceduresSubstantive ProceduresSubstantive procedures are methods designed by an auditor to evaluate a company’s financial statements, which require an auditor to create conclusive evidence for verifying the completeness, accuracy, existence, occurrence, measurement, and valuation of the business’s financial records.read more are processes, steps, and tests performed by auditors, which create conclusive evidence regarding accuracy, completeness, existence, disclosure, rights, or valuation of assets/ liability, books of accounts, orFinancial statements are written reports prepared by a company’s management to present the company’s financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more financial statementsFinancial StatementsFinancial statements are written reports prepared by a company’s management to present the company’s financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more. For any procedure to be concluded, the auditor should collect enough audit evidence so that another competent auditor makes the same conclusion when applying the same procedure to the same documents. It can be regarded as complete checking. Auditor usually uses this procedure when he believes the audit area includes a high frequency of risk.

#2 – Analytical Audit Procedures

Analytical procedures can be defined as tests/studies/ evaluations ofFinancial Information refers to the summarized data of monetary transactions that is helpful to investors in understanding company’s profitability, their assets, and growth prospects. Financial Data about individuals like past Months Bank Statement, Tax return receipts helps banks to understand customer’s credit quality, repayment capacity etc.read more financial informationFinancial InformationFinancial Information refers to the summarized data of monetary transactions that is helpful to investors in understanding company’s profitability, their assets, and growth prospects. Financial Data about individuals like past Months Bank Statement, Tax return receipts helps banks to understand customer’s credit quality, repayment capacity etc.read more through analysis of plausible relationships among both financial and non-financial data. In simple language, certain checks/tests are conducted by auditors based on study/ knowledge/ previous year figures to check and form an opinion on financial statements. Depending on the audit area, the analytical audit procedure may differ. For example, the auditor may compare two sets of financial statements of the same entity about two different financial years or sometimes may compare two separate entities’ financial data for obtaining audit evidence.

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  • Auditing I: Conceptual Foundations of AuditingAuditing II: The Practice of Auditing

Types of Audit Procedures

  • Inspection – Inspection is the most commonly used method. Under this, the auditor checks every transaction/ document against written steps and procedures to ensure accuracy.Observation – Under this audit technique, the auditor usually tries to inspect others doing/ performing a particular process. E.g., An auditor may observe steps followed in processing GRNGRNThe full form of GRN is Goods Received Note. GRN refers to the business document which is filled by the customer at the time of receipt of the goods from the seller in order to confirm the receipt of all the goods as agreed between the parties involved and it is often compared with the purchase order (PO) before issuing the payment to the seller of the goods.read more against goods purchased.Confirmation – This type is applied to ensure the correctness of financial statements either from internal sources within the auditee organization or from external sources.Recalculation – Under this audit method, the auditorThe AuditorAn auditor is a professional appointed by an enterprise for an independent analysis of their accounting records and financial statements. An auditor issues a report about the accuracy and reliability of financial statements based on the country’s local operating laws.read more usually crosses the checks information presented by the client. It is generally used in case of checking mathematical accuracy.Reperformance – Using this procedure, the auditor re-performs the entire process performed by the client to find gaps, audit findings, etc.

Practical Examples of Audit Procedures

  • The auditor may evaluate outstanding customer balance by preparing debtors’ aging schedules. The auditor may compare the same for two different audit periods and find conclusions. If there is no change in credit policy, no significant change in sales,A debtor is a borrower who is liable to pay a certain sum to a credit supplier such as a bank, credit card company or goods supplier. The borrower could be an individual like a home loan seeker or a corporate body borrowing funds for business expansion.
  • read more the debtor’sThe Debtor’sA debtor is a borrower who is liable to pay a certain sum to a credit supplier such as a bank, credit card company or goods supplier. The borrower could be an individual like a home loan seeker or a corporate body borrowing funds for business expansion.
  • read more balance should almost be the same, etc.Ratio analysis: The auditor may use this method to compare the current ratio of the differentA reporting period is a month, quarter, or year during which an organization’s financial statements are prepared for external use uniformly across a period of time in order for the general public and users to interpret and evaluate the financial statements.read more reporting periodsReporting PeriodsA reporting period is a month, quarter, or year during which an organization’s financial statements are prepared for external use uniformly across a period of time in order for the general public and users to interpret and evaluate the financial statements.read more while checking the working capital. This comparison of current assets/current liabilities should be almost the same unless the organization amended its policies related to any of the working capital items.The auditor may check and compare the employee benefits expense accountsExpense AccountsExpense accounting is the accounting of business costs incurred to generate revenue. Accounting is done against the vouchers created at the time the expenses are incurred.read more for the different accounting periods. This amount should be the same or rise following promotion/ incremental policies. Suppose an auditor finds a different reason for rising/declining other than policies or employee turnover. In that case, there are chances of fraudulent payments being processed to fake employees through the payroll system.They were cross-checking any expenses in line with the quantity and rate and matching actual figures. For example, suppose 5KGs of potatoes of $25/Kg results in 1 KG of potato chips. The auditor should check actual expenditure should be around $25 for producing 1 KG of potato chips.Examine a trend line of any expenses. This amount should vary from the following production. If not matching, there are chances that management may not be correctly recognizing expenses promptly.

Advantages

Some advantages are as follows:

  • It helps an auditor obtain conclusive and substantial audit evidence to form an opinion on financial statements.Well-defined procedures define the quantum of time and energy which must be deployed to find audit evidence.Pre-established procedures help an auditor follow a defined set of steps that need to be followed to find audit evidence.They also help the auditor plan areas that need to be focused and decide the type of audit procedure that needs to be applied well.

Limitations

Despite several audit procedures applied by an auditor, they cannot conclude whether financial statements prepared present a true and correct view. An auditor expresses an opinion that is always subjected to inherent limitations of an audit, which are described as follows:

  • Human Error: Despite checking at a thorough level, there are chances of expressing an inadequate opinion due to human errors and omissions. Since there is always a person present behind any machine.Absence of Clear Instructions in Accounting: Auditing standards prescribe a series of steps to be followed while conducting an audit, but some situations are still undefined. Treatment needs presumptions in these cases.Existence of Management Fraud: There may be chances of fraud committed at high-level management or by collaborating with a group of employees. Since the auditor forms an opinion based on data shared by the auditee, the auditee may not be in a position to detect such fraud.Judgments: In preparing a financial statement, there are situations where management needs to make a judgment that may differ from one to another. With this change in judgments, an auditor may not depict the exact position of that business.

Important Points

With changes in the business environment and business models, the auditor needs to ensure changes in predefined audit procedures. Since the change in environment, these procedures have also become obsolete. For example, with the increased automation, an auditor needs to implement audit procedures keeping in mind the computerized environment involved. An audit without a system audit may be incomplete and may form the wrong audit opinion.

Conclusion

Audit Procedures are a series of steps/processes/ methods applied by an auditor to obtain sufficient audit evidence for forming an opinion on financial statements, whether they reflect the true and fair view of the organization’s financial position. It is mainly of two types – substantive and analytical procedures. Depending on risk assessment, the auditor applies audit procedures. These help an auditor plan an audit and invest time in obtaining audit evidence accordingly. Audit opinion, still, is subjected to inherent limitations of an audit.

This has been a guide to what audit procedures are and their definition. Here we discuss its types and examples of audit procedures along with its advantages and limitations. You can learn more about financing from the following articles –

  • Compliance AuditAudit Objectives TypesAudit Report Types Financial Statement Audit