Auditors gather and assess the financial information to audit the fairness and accuracy of the financial statements of an entity. Several approaches sought through audit evidence have been adopted to collect relevant, sufficient, and appropriate data. To support the auditor’s opinion. Audit evidence includes records, documents, and other information that assert how free the financial statements are from material misstatement.
There are seven major classifications of techniques for obtaining audit evidence: inspection, observation, inquiry, confirmation, recalculation, re-performance, and analytical procedures. Each technique gives different perceptions about the financial condition of an entity and helps the auditors to identify errors, misstatements, or fraud.
Techniques of Obtaining Audit Evidence
The auditor uses several techniques to verify the audit evidences. The techniques would help him to satisfy himself that the financial records are meeting the standards applicable in the jurisdiction of the entity. These evidential-gathering techniques are the means through which auditors ascertain their opinion with respect to the financial statements and the measurement of any significant risk of material misstatement that may be contained therein.
Inspection
Inspection is one of the most commonly used audit evidence methods. It includes the examination of financial records, contracts, invoices, receipts, and other documents. An auditor needs to examine assets, goods, cash, etc., where the presence of items has to be established. It is to prove that the transaction actually took place.
For example, an auditor will check the purchase invoices to confirm expenses stated in financial statements to see if they match the transactions. They will also physically inspect the warehouse inventory to confirm stock levels. Inspection provides direct evidence about financial transactions and is highly reliable when combined with other techniques.
Observation
Observation is to observe processes, procedures, and the work of internal controls in actual working. Auditors observe the efficiency of supervision over employees and conclude thereafter whether or not the internal controls are meant.
To illustrate, an auditor might observe the cash transactions at the retail store. If the cash handling was done as described, this would place that as evidence for stronger internal controls; conversely, the auditor spotting employees circumventing certain security measures would infer possible risks.Though it may provide important insights, observation is not strong and must be corroborated by evidence from other audit procedures.
Inquiry
Inquiry refers to questioning management, employees, and third parties. Auditors usually ask for oral or written explanations concerning important financial transactions, internal controls, and some company policies. Inquiries are for generalization in understanding complex finance when discrepancies are evidenced in financial records.
As in the case of questioned expenses in a financial statement that suddenly spiked, the auditor may approach the finance manager for an explanation. Whatever the auditor can ascertain from the results will help determine whether they justify the increase or whether further investigations are necessary. Inquiry alone is not very good evidence of such facts. Responses are loaded with bias or simply wrong. The above-mentioned responses require presence of documentary proof for their validation.
Confirmation
Confirmation is a procedure through which the auditor seeks to ascertain the financial balances and transactions by external parties. This is an effective procedure for establishing cash balances, accounts payable, and receivables. External confirmation is said to be so much more reliable than any other audit evidence because it states the source against whom it is independent.
For example, an audit will have confirmation letters sent to banks to attest to the cash balances of a particular company. Auditors could also contact suppliers to prove outstanding payables. Third-party confirmations provide strong evidence and reliability within audit evidence.
Recalculate
The term recalculation deals with checking mathematical accuracy in the financial records. While obtaining audit evidence, the auditor recalculated quite a few calculations related to expenditures, encompassing depreciation, interest expense, and payroll. It ensures the accuracy of numbers within the financial statements.
If the auditor finds depreciation expense related to the company’s assets, they may recalculate that amount using the depreciation formula. If the result matches what has been recorded, it proves correct. Hence, recalculation is that type of audit evidence that is direct and extremely reliable.
Re-performance
Re-performance is an audit method whereby the auditor independently carries out accounting or internal control procedures. This implies that the auditor takes this opportunity to confirm whether the internal control system is functioning well.
In case the organization is publishing bank reconciliation statements at the end of the month, an auditor might re-perform the bank reconciliation in order to ascertain whether the process was done right or not. Suppose the auditor finds data that are consistent with that recorded in the company’s reconciliation; this indicates that the procedure was properly executed. Re-performance stands as a rather strong audit technique since it covers firsthand evidence.
Analytical Procedures
Enumarative analytical procedures may involve actual investigation of financial data for trends, patterns, and inconsistencies. Auditors will compare past financial data for the current year to amounts established by the industry statewide and budgeted amounts to derive any unusual fluctuation.
For example, if an auditor detects an abnormal percentage reduction in the profit margin, he/she would investigate the reasons behind it. The analytical procedures can detect potential fraud, misstatement, and risks in financial statements.
Need for Choosing the Right Audit Evidence Method
Auditors follow different audit evidence methods to ensure financial statements are accurate, reliable, and free from material misstatements.
- An audit’s methodology depends upon its attributes, on the level of risk involved, and on how complex the transactions under consideration might be. In general, it is understood that no one method will ever be sufficient in forming a conclusive audit opinion.
- Therefore, auditors adopt a range of methods to arrive at sufficient and appropriate audit evidence that is competent to support their opinion. Such work helps auditors to detect frauds, comply with regulations, and provide assurance as to the truth and fairness of the financial information.
- Ultimately, this gives assurance as to whether the financial statements reflect a true and fair view of the organization’s financial status.Auditors adopt different methods of audit evidence gathering in as much as they rely on those methods for convincing, accurate, reliable, and free-from-material misstatements of financial statements.
- The method used depends on the type of audit, the risk involved, and the complexity of the transactions. No method is sufficient to form a conclusive audit opinion.
Auditors often rely on various techniques to collate their comprehensive, credible evidence.
Sources of Audit Evidence
Audit evidence can come from several different sources, generally classified as internal, as it were, and external parties. The source of audit evidence determines its credibility and reliability as evidence. In general, external evidence is reliable from its independence and is least prone to fabrication and distortion. However, auditors always base their audit evidence on internal and external sources.
Internal Sources
Audit evidence can come from several different sources, generally classified as internal, as it were, and external parties. The internal sources of audit evidence are as follows:-
Financial Statements and Financial Records
Companies keep accounting records, including financial statements, journal entries, ledger accounts, subsidiary ledgers, trial balances, and supporting documents. Auditors check the records against financial transactions and accounting principles; however, as a result of the fact that the records are prepared and maintained by the client, there may be discrepancies or even intentional misstatements contained in these records, which supersedes external verification of these records for proper monitoring and accountability.
Company Policies and Internal Reports
Internal policies, procedural manuals, audit reports, and financial control documents show the functioning of a company. Auditors check whether internal policies are consistent with good industry practice and legal requirements, but they depend on management integrity and the internal audit activity’s competence.
Physical Assets
Auditors physically inspect tangible assets such as inventory, equipment, cash, etc., and verify their existence and condition. Physical verification helps auditors ascertain if the reported asset exists and whether it is fairly valued in the financial statements.
Evidence from Employee Testimonies
Employee interviews provide valuable inputs regarding financial practices, internal controls, and processes followed. In such cases, however, employee testimonies might suffer from biases so that the auditor corroborates their testimony through documentary evidence.
External Sources of Audit Evidence
Audit evidence can come from several different sources, generally classified as internal, as it were, and external parties. The external sources of audit evidence are as follows:-
Bank Confirmations
Auditors contact banks and request direct confirmations so as to establish the existence of cash balances, loans, and financial arrangements, thereby reducing the risk of fraudulent reporting and materially misstating the accounts.
Supplier Confirmations and Customer Confirmations
The auditors send written confirmations to suppliers and customers to establish outstanding balances, payment arrangements, and sales transactions. Hence, the auditor may rely on the independent confirmation of these confirmations to enhance the reliability of the audit.
Reports by Legal and Regulatory Authorities
Reports by external regulatory authorities, tax returns, and government records independently verify a company ís financial position. Auditors use these documents to verify financial information.
Independent Appraisals
External valuations, such as property appraisals, assist auditors in verifying asset values and ensuring that these are correctly reported in the financial statements. Such reports provide objective and worthy corroborating evidence.
| Type | Examples | Reliability |
| Internal | Financial records, internal audit reports | Moderate |
| External | Bank confirmations, legal filings, third-party appraisals | High |
Readability of Audit Evidence
Not every audited evidence has the same reliability level. Audit evidence is based on several key aspects, such as source, nature, and method in which it is obtained. Strong audit evidence enables auditors to draw accurate conclusions; therefore, it becomes a determining factor in announcing whether financial statements are free from material misstatements.
Audit evidence credibility determines to what extent the auditors use it in formulating their opinion regarding the financial statements of the entity. Reliably minimal errors, fraud, or deception in financial statements and increase the quality of audit. External, well documented, and direct evidence can always weigh more than internal evidence, which of its nature does not have much credible ground.
Techniques of Obtaining Audit Evidence FAQs
Why is audit evidence important?
Audit evidence assures that the auditors verify the financial statements accurately. It ensures transparency and fraud detection and improves credibility in the system.
What are some of the examples of audit evidence?
For example, invoices, bank statements, contracts, and confirmation letters from third parties.
How do auditors then measure audit evidence’s reliability?
Evidence is judged with respect to its source, quality, and consistency. External well-documented evidence is more reliable.
What internal and external audit evidence also differ according to?
Internal evidence comes from the company’s records, while external evidence is obtained from third parties. External evidence is usually stronger regarding reliability.
What is the role that substantive procedures play in an audit?
Substantive procedures verify whether financial statements are correct. It helps detect errors and fraud while complying with accounting standards.
