Statement on Auditing Standards, Audit Evidence (Study Guide Part 3)

A68. Appendix B 4 Amendments to Various Sections in Statement on Auditing Standards No. 122, Statements on Auditing Standards: Clarification and Recodification, as Amended (Boldface italics denote new language. Deleted text is shown in strikethrough.) 1. The amendment to each section in this appendix is effective for audits of financial statements for periods ending on or after December 15, 2022. AU-C Section 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance With Generally Accepted Auditing Standards [No amendment to paragraphs .013.13.] Definitions .14 For purposes of GAAS, the following terms have the meanings attributed as follows: … Audit evidence. Information used by the auditor in arriving at the conclusions on which the auditor’s opinion is based. Audit evidence includes both information contained in the accounting records underlying the financial statements and other information. Sufficiency of audit evidence is the measure of the quantity of audit evidence. The quantity of theaudit evidence necessary needed is affected by the auditor’s assessment of the risks of material misstatement . and also by the quality of such audit evidence. Appropriateness of audit evidence is the measure of that is, its relevance and reliability in providing support for the conclusions on which the auditor’s opinion is based. … [No amendment to paragraphs .153.18.] Sufficient Appropriate Audit Evidence and Audit Risk .19 To obtain reasonable assurance, the auditor should obtain sufficient appropriate audit evidencefn 4 to reduce audit risk to an acceptably low level and thereby enable the auditor to draw reasonable conclusions on which to base the auditor’s opinion. (Ref: par. .A323 .A56) fn 4 See paragraph .06 of AU-C section 500, Audit Evidence, for the definition of audit evidence. [Subsequent footnotes renumbered.] [No amendment to paragraphs .203.A26. Paragraph .A26 included for contextual purposes only.] … .A26 The auditor neither assumes that management is dishonest nor assumes unquestioned honesty. The auditor cannot be expected to disregard past experience of the honesty and integrity of the entity’s management and those charged with governance. Nevertheless, a belief that management and those charged with governance are honest and have integrity does not relieve the auditor of the need to maintain professional skepticism or allow the auditor to be satisfied with less than persuasive audit evidence when obtaining reasonable assurance. .A27 Unconscious or conscious auditor biases may affect the auditor’s professional skepticism and professional judgment, including, for example, in the design and performance of audit procedures or the evaluation of audit evidence. Examples of unconscious auditor biases that may impede the maintenance of professional skepticism and, therefore, the reasonableness of the professional judgments made by the auditor in complying with the requirements of this SAS, may include the following: • Availability bias, which is a tendency to place more weight on events or experiences that immediately come to mind or are readily available than on those that are not • Confirmation bias, which is a tendency to place more weight on information that corroborates an existing belief than information that contradicts or casts doubt on that belief • Overconfidence bias, which is a tendency to overestimate one's own ability to make accurate assessments of risk or other judgments or decisions • Anchoring bias, which is a tendency to use an initial piece of information as an anchor against which subsequent information is inadequately assessed • Automation bias, which is a tendency to favor output generated from automated systems, even when human reasoning or contradictory information raises questions about whether such output is reliable or fit for purpose [Paragraphs .A273.A86 have been renumbered.] [No amendment to paragraphs .A273.A75.] .A76 The auditor is required by paragraph .23b to use the objectives stated in the relevant AU-C sections to evaluate whether sufficient appropriate audit evidence has been obtained in the context of the overall objectives of the auditor. If, as a result, the auditor concludes that sufficient appropriate the audit evidence has not been obtained is not sufficient and appropriate, then the auditor may follow one or more of the following approaches to meeting the requirement of paragraph .23b: • • • Evaluate whether further relevant audit evidence has been, or will be, obtained as a result of complying with other AU-C sections, in particular, AU-C section 330. Extend the work performed in applying one or more requirements. Perform other procedures judged by the auditor to be necessary in the circumstances. When none of the preceding is expected to be practical or possible in the circumstances, the auditor will not be able to obtain sufficient appropriate audit evidence and is required by GAAS to determine the effect on the auditor’s report or on the auditor’s ability to complete the engagement. [No further amendment to AU-C section 200.] AU-C Section 230, Audit Documentation [No amendment to paragraphs .013.05.] .06 For purposes of GAAS, the following terms have the meanings attributed as follows: Audit documentation. The record of audit procedures performed, relevant audit evidence obtained, and conclusions the auditor reached (terms such as working papers or workpapers are also sometimes used)… [No further amendment to AU-C section 230.] AU-C Section 315, Understanding the Entity and Its Environment and Assessing the Risks of Material Misstatement [No amendment to paragraphs .013.A80.] .A81 Audit evidence for elements of the control environment. Relevant aAudit evidence related to elements of the control environment may be obtained through a combination of inquiries and other risk assessment procedures, such as corroborating inquiries through observation or inspection of documents. For example, through inquiries of management and employees, the auditor may obtain an understanding of how management communicates to employees management’s views on business practices and ethical behavior. The auditor may then determine whether relevant controls have been implemented by considering, for example, whether management has a written code of conduct and whether it acts in a manner that supports the code. [No further amendment to AU-C section 315.] AU-C Section 330, Performing Audit Procedures in Response to Assessed Risks and Evaluating the Audit Evidence Obtained [No amendment to paragraphs .013.05.] .06 The auditor should design and perform further audit procedures whose nature, timing, and extent are based on, and are responsive to, the assessed risks of material misstatement at the assertion level and in a manner that is not biased towards obtaining audit evidence that may be corroborative or towards excluding audit evidence that may be contradictory. When evaluating audit evidence with respect to the assessed risks of material misstatement, the auditor maintains professional skepticism, including when considering information that may be used as audit evidence and what procedures would be appropriate in the circumstances. [No amendment to paragraphs .073.27.] .28 The auditor should conclude whether sufficient appropriate audit evidence has been obtained. In forming a conclusion, the auditor should consider all relevant audit evidence, regardless of whether it appears to corroborate or contradict the assertions in the financial statements. [No amendment to paragraphs .293.A47.] .A48 The nature of the risk and assertion is relevant to the design of tests of details. For example, tests of details related to the existence or occurrence assertion may involve selecting from items contained in a financial statement amount and obtaining relevant audit evidence. On the other hand, tests of details related to the completeness assertion may involve selecting from items that are expected to be included in the relevant financial statement amount and investigating whether they are included. For example, the auditor might inspect subsequent cash disbursements and compare them with the recorded accounts payable to determine whether any purchases had been omitted from accounts payable. [No amendment to paragraphs .A493.A50.] .A51 External confirmation procedures frequently may be relevant when addressing assertions associated with account balances and their elements but need not be restricted to these items. For example, the auditor may request external confirmation of the terms of agreements, contracts, or transactions between an entity and other parties. External confirmation procedures also may be performed to obtain audit evidence about the absence of certain conditions. For example, a request may specifically seek confirmation that no "side agreement" exists that may be relevant to an entity’s revenue cut-off assertion. Other situations in which external confirmation procedures may provide relevant audit evidence in responding to assessed risks of material misstatement include the following: • Bank balances and other information relevant to banking relationships • Inventories held by third parties at bonded warehouses for processing or on consignment • • Property title deeds held by lawyers or financiers for safe custody or as security Investments held for safekeeping by third parties or purchased from stockbrokers but not delivered at the balance sheet date • Amounts due to lenders, including relevant terms of repayment and restrictive covenants • Accounts payable balances and terms .A52 Although external confirmations may provide relevant audit evidence relating to certain assertions, some assertions exist for which external confirmations provide less persuasive audit evidence, for example, external confirmations provide less persuasive audit evidence relating to the recoverability of accounts receivable balances than they do of their existence. [No amendment to paragraphs .A533.A58.] .A59 Audit evidence in the form of external confirmations received directly by the auditor from appropriate confirming parties may assist the auditor in obtaining audit evidence with the high level of reliability that the auditor requires to respond to significant risks of material misstatement, whether due to fraud or error. For example, if the auditor identifies that management is under pressure to meet earnings expectations, a risk may exist that management is inflating sales by improperly recognizing revenue related to sales agreements with terms that preclude revenue recognition or by invoicing sales before shipment. In these circumstances, the auditor may, for example, design external confirmation procedures not only to confirm outstanding amounts but also to confirm the details of the sales agreements, including date, any rights of return, and delivery terms. In addition, the auditor may find it effective to supplement such external confirmation procedures with inquiries of nonfinancial personnel in the entity regarding any changes in sales agreements and delivery terms. [No amendment to paragraphs .A603.A65.] .A66 An effective test provides appropriate audit evidence to the extent that it will be sufficient for the auditor’s purpose when taken with other audit evidence obtained or to be obtained. In selecting items for testing, the auditor is required by AU-C section 500 to consider determine the relevance and reliability of information to be used as audit evidence;fn12 the other aspect of effectiveness (sufficiencyextent) is an important consideration in selecting items to test. The means available to the auditor for selecting items for testing are a. selecting all items (100 percent examination), b. selecting specific items, and c. audit sampling. fn 12 [Footnote omitted for purposes of this SAS.] [No amendment to paragraphs .A673.A74.] .A75 By performing audit procedures, the auditor may determine that the accounting records are internally consistent and agree to the financial statements. However, accounting records alone do not provide sufficient appropriate audit evidence on which to base an audit opinion on the financial statements. [Paragraph .A75 is renumbered as .A76.] .A76A77 The auditor’s conclusion of whether sufficient appropriate audit evidence has been obtained is both at the relevant assertion level as well as the financial statement level. AU-C section 500 enables the auditor to evaluate the results of audit procedures to inform the auditor’s overall conclusion about whether sufficient appropriate audit evidence has been obtained as required by paragraph .28. The auditor’s professional judgment about what constitutes sufficient appropriate audit evidence is influenced by the following additional such factors: as the • Ssignificance of the potential misstatement in the relevant assertion and the likelihood of its having a material effect, individually or aggregated with other potential misstatements, on the financial statements (see section 450, Evaluation of Misstatements Identified During the Audit). • Eeffectiveness of management’s responses and controls to address the risks. • Eexperience gained during previous audits with respect to similar potential misstatements. • Whether the audit procedures that were performed identified specific instances of fraud or error. • source and reliability of the available information. • persuasiveness of the audit evidence. • Uunderstanding of the entity and its environment, including its internal control. [Paragraph .A76 is renumbered as .A77.] [No further amendment to AU-C section 330.] AU-C Section 501, Audit Evidence 4 Specific Considerations for Selected Items NOTE Although SAS No. 142 supersedes SAS No. 122, as amended, AU-C section 500 (codified as AU-C section 500A in AICPA Professional Standards until the effective date of SAS No. 142), SAS No. 142 transfers the management’s specialist content from AU-C section 500A to AU-C section 501. The following paragraphs have been transferred from AU-C section 500A to AU-C section 501 and revised, as necessary: 1. Paragraph .05, definition of management’s specialist 2. Paragraphs .08, under the Information to Be Used as Audit Evidence= heading, and corresponding application paragraphs .A353.A49 Scope of This Section .01 This section addresses specific considerations by the auditor in obtaining sufficient appropriate audit evidence, in accordance with section 330, Performing Audit Procedures in Response to Assessed Risks and Evaluating the Audit Evidence Obtained; section 500, Audit Evidence; and other relevant AU-C sections, regarding certain aspects of (a) investments in securities and derivative instruments; (b) inventory; (c) litigation, claims, and assessments involving the entity; and (d) segment information in an audit of financial statements; and (e) use of management’s specialists. [No amendment to paragraph .02.] Objective .03 The objective of the auditor is to obtain sufficient appropriate audit evidence regarding the a. valuation of investments in securities and derivative instruments; b. existence and condition of inventory; c. completeness of litigation, claims, and assessments involving the entity; and d. presentation and disclosure of segment information, in accordance with the applicable financial reporting framework; and e. use of management’s specialists. Definition .04 For purposes of GAAS, the following term has the meaning attributed as follows: Management’s specialist. An individual or organization possessing expertise in a field other than accounting or auditing, whose work in that field is used by the entity to assist the entity in preparing the financial statements. [Subsequent paragraphs renumbered. No amendment to paragraphs .053.25.] Use of Management’s Specialists .26 If information to be used as audit evidence has been prepared using the work of a management’s specialist, the auditor should, to the extent necessary, taking into account the significance of that specialist’s work for the auditor’s purposes (Ref: par. .A693.A71) a. evaluate the competence, capabilities, and objectivity of that specialist; (Ref: par. .A723.A78) b. obtain an understanding of the work of that specialist; and (Ref: par. .A793 .A82) c. evaluate the appropriateness of that specialist’s work as audit evidence for the relevant assertion. (Ref: par. .A83) [No amendment to paragraphs .A13.A68.] Use of Management’s Specialists (Ref: par. .26) .A69 The preparation of an entity’s financial statements may require expertise in a field other than accounting or auditing, such as actuarial calculations, valuations, or engineering data. The entity uses a management’s specialist in these fields to obtain the needed expertise to prepare the financial statements. Failure to do so when such expertise is necessary increases the risks of material misstatement and may be a significant deficiency or material weakness. fn 12 .A70 When information to be used as audit evidence has been prepared using the work of a management’s specialist, the requirement in paragraph .26 applies. For example, an individual or organization may possess expertise in the application of models to estimate the fair value of securities for which no observable market exists. If the individual or organization applies that expertise in making an estimate, which the entity uses in preparing its financial statements, the individual or organization is a management’s specialist, and paragraph .26 applies. If, on the other hand, that individual or organization merely provides price data regarding private transactions not otherwise available to the entity, which the entity uses in its own estimation methods, such information, if used as audit evidence, is subject to paragraph .07 of section 500, but it is not the use of a management’s specialist by the entity. .A71 The nature, timing, and extent of audit procedures with regard to the requirement in paragraph .26 may be affected by such matters as the following: fn 12 • The nature and complexity of the matter to which the management’s specialist relates • The risks of material misstatement of the matter • The availability of alternative sources of audit evidence • The nature, scope, and objectives of the work of the management’s specialist • Whether the management’s specialist is employed by the entity or is a party engaged by it to provide relevant services • The extent to which management can exercise control or influence over the work of the management’s specialist • Whether the management’s specialist is subject to technical performance standards or other professional or industry requirements See section 265, Communicating Internal Control Related Matters Identified in an Audit, for further guidance. • The nature and extent of any controls within the entity over the work of the management’s specialist • The auditor’s knowledge and experience of the field of expertise of management’s specialist • The auditor’s previous experience of the work of that specialist The Competence, Capabilities, and Objectivity of a Management’s Specialist (Ref: par. .26a) .A72 Competence relates to the nature and level of expertise of the management’s specialist. Capability relates to the ability of the management’s specialist to exercise that competence in the circumstances. Factors that influence capability may include, for example, geographic location and the availability of time and resources. Objectivity relates to the possible effects that bias, conflict of interest, or the influence of others may have on the professional or business judgment of the management’s specialist. The competence, capabilities, and objectivity of a management’s specialist, and any controls within the entity over that specialist’s work, are important factors with regard to the reliability of any information produced by a management’s specialist. .A73 Information regarding the competence, capabilities, and objectivity of a management’s specialist may come from a variety of sources, such as the following: • Personal experience with previous work of that specialist • Discussions with that specialist • Discussions with others who are familiar with that specialist’s work • Knowledge of that specialist’s qualifications, membership in a professional body or industry association, license to practice, or other forms of external recognition • Published papers or books written by that specialist • An auditor’s specialist, if any, that assists the auditor in obtaining sufficient appropriate audit evidence with respect to information produced by the management’s specialist .A74 Matters relevant to evaluating the competence, capabilities, and objectivity of a management’s specialist include whether that specialist’s work is subject to technical performance standards or other professional or industry requirements, for example, ethical standards and other membership requirements of a professional body or industry association, accreditation standards of a licensing body, or requirements imposed by law or regulation. .A75 Other matters that may be relevant include the following: • The relevance of the capabilities and competence of the management’s specialist to the matter for which that specialist’s work will be used, including any areas of specialty within that specialist’s field. For example, a particular actuary may specialize in property and casualty insurance but have limited expertise regarding pension calculations • The competence of the management’s specialist with respect to relevant accounting requirements, for example, knowledge of assumptions and methods, including models, when applicable, that are consistent with the applicable financial reporting framework • Whether unexpected events, changes in conditions, or the audit evidence obtained from the results of audit procedures indicate that it may be necessary to reconsider the initial evaluation of the competence, capabilities, and objectivity of the management’s specialist as the audit progresses .A76 A broad range of circumstances may threaten objectivity, for example, selfinterest threats, advocacy threats, familiarity threats, self-review threats, and intimidation threats. Safeguards may reduce such threats and may be created either by external structures (for example, the profession, legislation, or regulation of the management’s specialist) or by the work of the management’s specialist’s environment (for example, quality control policies and procedures). .A77 Although safeguards cannot eliminate all threats to the objectivity of a management’s specialist, threats such as intimidation threats may be of less significance to a specialist engaged by the entity than to a specialist employed by the entity, and the effectiveness of safeguards such as quality control policies and procedures may be greater. Because the threat to objectivity created by being an employee of the entity will always be present, a specialist employed by the entity cannot ordinarily be regarded as being more likely to be objective than other employees of the entity. .A78 When evaluating the objectivity of a specialist engaged by the entity, it may be relevant to discuss with management and that specialist any interests and relationships that may create threats to the specialist’s objectivity and any applicable safeguards, including any professional requirements that apply to the specialist, and to evaluate whether the safeguards are adequate. Interests and relationships creating threats may include the following: • Financial interests • Business and personal relationships • Provision of other services