Auditing and assurance revision question and answer

Auditing and Assurance Revision Questions and Answers

a) Briefly explain how the auditor can use each of the following methods of sample selection when carrying out his audit assignment;
i) Stratified sampling (2 marks)
ii) Cluster sampling (2 marks)
iii) Haphazard sampling (2 marks)
iv) Block sampling (2 marks)
b) Explain the reasons why an auditor is not required to carry out a complete check of all the transactions and balances of a business (4 marks)
c) Identify the cases where an auditor is required to conduct a complete check of all the transactions and balances of a business. (4 marks)
d) Explain two reasons why an auditor should consider materiality when selecting a sample size. (4 marks)
(Total: 20 marks)

a) The auditor can use each of the following methods of sample selection when carrying out his audit assignment as follows

i) Stratified sampling
Stratification is used to reduce the degree of variation between items within a population and enables auditor to direct attention to those areas where there is the greatest potential monetary error. It has the effect of reducing sample sizes. Where auditors are concerned with discovery of overstatement errors and consider that the largest monetary errors are likely to occur in the largest individual populations, they will stratify population value They may direct major part of their audit effort to those items with highest individual value.

ii) Cluster Sampling
It is useful when data is maintained in clusters (groups or bunches) as wage records are kept in weeks or safes in months. The idea is to select a cluster randomly and then to examine all the items in the cluster. The problem with the method is that the sample may not be representative.

iii) Horizontal sampling
It is simply choosing items subjectively but avoiding bias. Bias might come in tendering to favour items in a particular location or in an accessible file or conversely in picking items because they appear unusual. The method is acceptable for non-statistical sampling but is insufficiently rigorous for statistical sampling.

iv) Block sampling
It is simply choosing at random one block of items e.g. all June invoices. It consists of selecting a number of adjacent transactions or items e.g. all sales in a particular week or all credit customers with a name beginning with a particular letter. It is not an appropriate selection method since populations might be expected to be structured in such a way that items in a sequence have similar characteristics to each other but different characteristics to items elsewhere in the population.

b) An auditor is not required to carry out a complete check of all transactions and balances;
i) Economic
The cost in terms of expensive audit resources would be prohibitive which will inflate audit fees

ii) Time
The complete check would take so long that the client may receive audit reports on matters which are outdated

iii) Practical reasons
Users of accounts do not expect 100% accuracy. The auditor will only focus on material areas.

iv) Psychological
A complete check would be tiresome to audit staff who may then not carry out an effective and efficient audit

v) Fruitless/End results
A complete check would not add much to worth of figures if as would be normal a few amounts were discovered. This emphasis in auditing should be on the completeness of record and true and fair view.

vi) Large volume of transactions
For large business with voluminous transactions, it is necessary for auditor to sample since not all transactions can be audited. Full testing would not achieve the specified audit objectives for an area e.g. full testing on sales invoices would not verify all sales are recorded (it may not demonstrate completeness) nor would it deal with human error on the part of the auditor.

c) Cases where an auditor is required to conduct a complete check of all transactions and balances
– Categories which are few in number but of great importance e.g. land and buildings
– Categories with special importance where materiality does not apply e.g. director‘s emoluments and director‘s loans and any other such benefits.
– Unusual, one-off or exceptional items
– Any area where the auditor is put upon enquiry
– High risk area
– Audit area does not consist of items of the same kind, i.e. there is non- homogeneous population.

d) Importance of considering materiality in selecting sample size
– An auditor is not required to have confidence that all items in a set of accounts are 100% correct. His duty is to give an opinion on the truth and fairness of the accounts. Errors can exist to accounts and yet accounts still give a true and fair view. The maximum error that any particular magnitude can obtain without marring true and fair view is tolerable error. Tolerable error is auditing materiality.
– In his audit planning, the auditor needs to determine the amount of tolerable error in any given population and to carry out tests to provide evidence that the actual errors in the population are less that tolerable error.

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