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CHAPTER 11 Audit Sampling Concepts

CHAPTER 11 Audit Sampling Concepts. What is a representative sample?. A representative sample has the same characteristics as the population from which the sample was taken. What can make a sample non -representative?. Sampling errors occur because of the nature

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CHAPTER 11 Audit Sampling Concepts

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  1. CHAPTER 11Audit SamplingConcepts

  2. What is a representative sample? A representative sample has the same characteristics as the population from which the sample was taken.

  3. What can make a sample non-representative? Sampling errors occur because of the nature of sampling; the proper sampling method was selected, applied, and interpreted but failed to uncover material misstatements.

  4. What can an auditor do to reduce the risk of sampling errors? increase sample size

  5. oops! What can make a sample non-representative? - sampling errors - nonsampling errors result from auditor failure to recognize errors or excep- tions or from the selection of ineffec- tive or inappropriate procedures

  6. What can an auditor do to reduce the risk of nonsampling errors? increase auditor competence Continuing Professional Education

  7. judgment OR statistics Audit sampling can be based on:

  8. nonstatistical samplingstatistical sampling primary advantage: employs auditor’s experience and judgment primary advantage: the sampling risk can be quantified

  9. nonstatistical sampling judgmentally select a representative sample sample selection Nonstatistical sampling employs nonprobabilistic selection - the auditor decides which population items to select.

  10. nonstatistical sampling sample selection judgmentally select a representative sample nonprobabilistic selection methods - judgmental (directed sample) selection auditor selects items based on charac- teristics because random selection does not consider: ~ each type of transaction

  11. nonstatistical sampling sample selection judgmentally select a representative sample nonprobabilistic selection methods - judgmental (directed sample) selection auditor selects items based on charac- teristics because random selection does not consider: ~ each type of transaction ~ each preparer of transactions

  12. nonstatistical sampling sample selection judgmentally select a representative sample nonprobabilistic selection methods - judgmental (directed sample) selection auditor selects items based on charac- teristics because random selection does not consider: ~ each type of transaction ~ each preparer of transactions ~ large dollar balances

  13. nonstatistical sampling sample selection judgmentally select a representative sample nonprobabilistic selection methods - block sampling - selection of a sequence and examining every item in the sequence Example: examine all cancelled cheques of February Ace Corporation 324 date $ pay to the order of CANADIAN BANK

  14. nonstatistical sampling sample selection judgmentally select a representative sample nonprobabilistic selection methods - haphazard selection - auditor selects items without regard to characteristics Beware of bias!

  15. statistical sampling sample selection randomly select a representative sample Statistical sampling employs probabilistic selection - every population item has a known chance of being selected.

  16. statistical sampling sample selection randomly select a representative sample probabilistic selection methods - simple random sample selection used to sample populations that are not segmented for audit purposes See pg 318

  17. statistical sampling sample selection randomly select a representative sample probabilistic selection methods - random number tables Know benefits & drawback Pg 318

  18. statistical sampling sample selection randomly select a representative sample probabilistic selection methods - computer generation of random numbers

  19. statistical sampling sample selection randomly select a representative sample Beware of possible bias with numeric tests, e.g., every 314th cheque is written on a Friday. probabilistic selection methods - systematic selection - the auditor cal- culates an interval, starts at random, and selects every nth item.

  20. Audit Sampling Audit sampling is a method used to determine the proportion of population items containing a particular attribute.

  21. SALES INVOICE 38527 Date: Ace Company Customer: 834 Reynolds Rd. Winnipeg, MB R2V 4E3 Sales Representative: Quantity Description Price When is audit sampling appropriate? tests of controls Terms of sale (including discounts and freight costs): Carrier: Credit authorization: total invoice amount Example: credit authorization of sales

  22. Audit Sampling Terms - attribute - acceptable risk of assessing control risk too low (ARACR) - tolerable exception rate (TER) - estimated population exception rate (EPER) - initial sample size - exception - sample exception rate (SER) - computed upper exception rate (CUER) - considering the extent of exceptions, the worst likely population exception rate

  23. Audit Sampling Sequence 1. State the objectives of the audit test.

  24. notes receivable $600,000 Audit Sampling Sequence 1. State the objectives of the audit test. Example: The auditor wants to deter- mine the acceptability of the notes re- ceivable balance of $600,000. acceptable?

  25. Audit Sampling Sequence 1. Determine the objectives of the test. 2. Decide if audit sampling applies. Does the auditor plan to reach conclusions based on a sample?

  26. Audit Sampling Sequence 1. Determine the objectives of the test. 2. Decide if audit sampling applies. 3. Define misstatement conditions. Misstatement conditions are any conditions that represent monetary fraud, errors or irregularities in the accounting records.

  27. Audit Sampling Sequence 1. Determine the objectives of the test. 2. Decide if audit sampling applies. 3. Define misstatement conditions. 4. Define the population. notes receivable dollars

  28. Audit Sampling Sequence 1. Determine the objectives of the test. 2. Decide if audit sampling applies. 3. Define misstatement conditions. 4. Define the population. 5. Define the sampling unit. one customer name or loan number

  29. What amount of monetary fraud, error or irregularity can exist in notes receivable without causing the financial statements to be materially misstated? Audit Sampling Sequence 1. Determine the objectives of the test. 2. Decide if audit sampling applies. 3. Define misstatement conditions. 4. Define the population. 5. Define the sampling unit. 6. Specify tolerable misstatement.

  30. What amount of monetary fraud, error or irregularity can exist in notes receivable without causing the financial statements to be materially misstated? based on auditor judgment Audit Sampling Sequence 6. Specify tolerable misstatement.

  31. What amount of monetary fraud, error or irregularity can exist in notes receivable without causing the financial statements to be materially misstated? Audit Sampling Sequence 6. Specify tolerable misstatement. In the notes receivable example, tolerable mis- statement is established at $24,000 for both over- and understatements.

  32. What level of risk is the auditor willing to take of concluding that the account balance is not materi- ally misstated when, in fact, it is materially misstated. Audit Sampling Sequence 7. Specify acceptable risk of incorrect acceptance.

  33. What level of risk is the auditor willing to take of concluding that the account balance is not materi- ally misstated when, in fact, it is materially misstated. also based on auditor judgment Audit Sampling Sequence 7. Specify acceptable risk of incorrect acceptance.

  34. What level of risk is the auditor willing to take of concluding that the account balance is not materi- ally misstated when, in fact, it is materially misstated. Audit Sampling Sequence 7. Specify acceptable risk of incorrect acceptance. In the notes receivable example, ARIA is established at 5%.

  35. What is the amount of mis- statement that the auditor expects to find in the population? Audit Sampling Sequence 8. Estimate misstatements in the population.

  36. What is the amount of mis- statement that the auditor expects to find in the population? Audit Sampling Sequence 8. Estimate misstatements in the population. based on auditor judgment and prior year results

  37. What is the amount of mis- statement that the auditor expects to find in the population? Audit Sampling Sequence 8. Estimate misstatements in the population. In the example, EPER is 1.5%; i.e., the auditor expects that 1.5% of the notes receivable balance is misstated.

  38. Audit Sampling Sequence 9. Determine the initial sample size. For nonstatistical sampling, professional judgment of auditor is used to determine initial sample size.

  39. Audit Sampling Sequence 9. Determine the initial sample size. For statistical sampling of test of controls, population size, TER, ARACR, and EPER are all factors used to determine initial sample size.

  40. Audit Sampling Sequence 10. Select the sample. Nonprobabilistic: - Directed sample selection - Block sample selection - Haphazard sample selection

  41. Audit Sampling Sequence 10. Select the sample. Probabilistic: - Simple random sample selection - Systematic sample selection - Probability proportionate-to-size sample selection

  42. Canada 48 Audit Sampling Sequence 11. Perform the audit procedures. Through confirmation of selected notes receivable balances, $1,380 of misstatements were discovered in a sample of $35,500.

  43. Project the sample misstatement results to the population and consider sampling error and sampling risk: sample misstatement total recorded point estimate total sample pop. value of misstatement x = Audit Sampling Sequence 12. Generalize from the sample to the population.

  44. sample misstatement total recorded point estimate total sample pop. value of misstatement = x Audit Sampling Sequence 12. Generalize from the sample to the population. Project the sample misstatement results to the population and consider sampling error and sampling risk: In the notes receivable example: $1,380 $35,500 x $600,000 = $23,324 point estimate

  45. The auditor must also judgmentally assess sampling error, considering several factors. The most important of these factors is the difference between the point estimate and tolerable misstatement. Audit Sampling Sequence 12. Generalize from the sample to the population. tolerable misstatement - point estimate = allowance for sampling error $24,000 - $23,324 = $676

  46. The auditor must also judgmentally assess sampling error, considering several factors. The most important of these factors is the difference between the point estimate and tolerable misstatement. Audit Sampling Sequence 12. Generalize from the sample to the population. In the notes receivable example: tolerable misstatement - point estimate = allowance for sampling error $24,000 - $23,324 = $676

  47. Audit Sampling Sequence 13. Analyze exceptions or misstatements. evaluate the nature and cause of each misstatement

  48. Audit Sampling Sequence 13. Analyze the exceptions or misstatements. evaluate the nature and cause of each misstatement This evaluation may affect the auditor’s conclu- sions regarding financial statements, client operations, and/or other areas.

  49. Decision Rule: Considering sampling error, if the point estimate is less than the tolerable mis- statement, accept the conclusion that the book value is not misstated by a material amount. Audit Sampling Sequence 14. Determine the acceptability of the population.

  50. original point estimate estimate of point estimate incl. of misstatement sampling error sampling error + = conclusion? judgmentally determined Decision Rule: Considering sampling error, if the point estimate is less than the tolerable mis- statement, accept the conclusion that the book value is not misstated by a material amount. In the notes receivable example: $23,324 + $1,500 = $24,824

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