Assertions and audit evidence

1 Introduction

When a figure appears in financial statements it is making a number of assertions. For example, if the receivables figure is $2,453,000, the figure is asserting:

• The amount has been properly valued
  

• The receivables are owned by the company
  

• The receivables exist
  

• The receivables are complete
  

• The amount is indeed properly described as receivables.
  

It is not possible to simply audit $2,453,000 ‘in one go’: each financial statement assertion requires audit evidence.

2 Assertions about classes of transactions and events and related disclosures

These assertions relate to the period under audit:

• Occurrence   –   transactions and events that have been recorded or disclosed have occurred and pertain to the entity.
  

• Completeness   –   all transactions and events that should have been recorded/disclosed have been recorded/disclosed.
  

• Accuracy   –   amounts have been recorded appropriately and related disclosures have been properly measured and described.
  

• Cut-off   –   transactions and events have been recorded in the correct accounting period.
  

• Classification   –   transactions and events have been recorded in the proper accounts.
  

• Presentation   –   transactions and events are appropriately aggregated (or disaggregated) and clearly described. Related disclosures are relevant and understandable.

3 Assertions about account balances and related disclosures

These assertions relate to the period end:

• Existence   –   assets, liabilities and equity interests exist.
  

• Rights and obligations   –   the entity holds or controls the rights to assets, and liabilities are the obligations of the entity.
  

• Completeness   –   all assets, liabilities and equity interests that should have been recorded have been recorded and all related disclosures included.
  

• Accuracy, valuation and allocation   –   assets, liabilities and equity interests are included at appropriate amounts and any resulting valuation or allocation adjustments are appropriately recorded. Related disclosures are appropriately measured and described.
  

• Classification   –   assets, liabilities and equity interests have been recorded in the proper accounts.
  

• Presentation   –   assets, liabilities and equity interests are appropriately aggregated (or disaggregated) and clearly described. Related disclosures are relevant and understandable.
  

Learn the assertions:

• Note that completeness, accuracy, classification and presentation are relevant to both 'transactions and events' and 'account balances' and their related disclosures.
  

• Understand that occurrence and cut-off relate only to transactions and events.
  

• Understand that existence, rights and obligations and valuation and allocation relate only to account balances.
  

4 Audit evidence

4.1 Audit procedures for obtaining audit evidence

These are the possible procedures:

• Inspection
  

• Observation
  

• External confirmation
  

• Recalculation
  

• Reperformance
  

• Analytical procedures
  

• Enquiry
  

For the sake of easy learning they are sometimes written to (almost) form the vowels AEIOU:

• Analytical procedures
  

• Enquiry and confirmation
  

• Inspection
  

• Observation
  

• RecalcUlation and reperformance
  

There are no methods to collect evidence that cannot be categorised under one of these headings.

Note from the following examples that:

• Analytical procedures, which concern monetary amounts, do not apply to controls.
  

• Observation, which means looking at a process or procedure, is used in tests of controls.
  

4.2 Examples of evidence collecting procedures

Note that:

• For a test of control, enquiry alone would never be sufficient to conclude that a control is operating effectively.
  

• Substantive procedures are directed to specific assertions.

4.3 Sufficient, appropriate audit evidence

So now we know the various procedures to obtain audit evidence, but how much audit evidence is needed? The sufficiency and appropriateness of audit evidence are interrelated.

Sufficiency relates to the quantity of audit evidence. The quantity of audit evidence needed is affected by the auditor’s assessment of the risks of misstatement (the higher the assessed risks, the more audit evidence is likely to be required) and also by the quality of such audit evidence (the higher the quality, the less may be required). Obtaining more audit evidence, however, may not compensate for its poor quality.

Appropriateness relates to the quality of audit evidence - its relevance (ie to the financial statement assertions) and reliability. With respect to the reliability of audit evidence we can say that, in general:

• External evidence is stronger than internal evidence.
  

• Written is stronger than oral.
  

• Evidence is better if the internal control system is strong.
  

• Evidence obtained directly by the auditor is better than evidence obtained via the client.
  

• Originals are better than photocopies.
  

Therefore, a director simply telling the auditor something is very weak evidence (internal, oral). A bank writing to the auditor to confirm the bank balance is very strong evidence (written, external, obtained directly by the auditor).

4.4 Relevance of evidence

Evidence is relevant when it addresses the objective and assertion being tested. Vouch a recorded payable to an invoice to test whether it is a valid liability (overstatement). To test completeness (understatement), start with suppliers’ statements or post-year-end payments and trace liabilities into the ledger. Inspecting only recorded payables cannot identify all omitted liabilities. Evidence of existence, such as a customer’s confirmation, does not by itself prove recoverability.

Reliability depends on the circumstances, not a fixed hierarchy alone. Internal evidence is stronger when the related controls work; external evidence depends on the source’s competence and independence. An original document is normally more reliable than a copy, but signs of alteration, conflicting replies or an unreliable electronic source require investigation.