Ch 9

Question 1

What is Audit Sampling?

Answer 1

Applying a procedure to less than 100% of a population.
To estimate some characteristic of the population.
Qualitative.(controls)
Quantitative.(substantive procedures)

Question 2

Sampling risk

Answer 2

Risk that the auditors’ conclusion based on a sample may be different from the conclusion they would reach if they examined every item in the population.

Question 3

Sampling risk is REDUCED by

Answer 3

by increasing the size of the sample

Question 4

Non-sampling risk

Answer 4

Risk of erroneous conclusion due to any factor other than the sample.
(e.g auditors may fail to apply appropriate audit procedures, or they may fail to recognize errors in the documents that are examined)

Question 5

non-sampling risk Can be reduced to low levels through

Answer 5

effective planning and supervisions of audit engagements.

Question 6

Types of Sampling

Answer 6

Nonstatistical sampling—Using judgment to plan, perform, and/or evaluate the sample.
Statistical sampling—Using mathematics and statistics plan, perform, and evaluate the sample.

Question 7

Nonstatistical Sampling

Answer 7

The auditor estimates sampling risk by using professional judgment rather than statistical techniques.

Provides no means of quantifying sampling risk.

Sample may be larger than necessary or auditors may unknowingly accept a higher-than-acceptable degree of sampling risk.

Question 8

Advantages of Statistical Sampling

Answer 8

Allows auditors to measure and control sampling risk which helps:

Question 9

Allows auditors to measure and control sampling risk which helps:

Answer 9

Design efficient samples.
Measure sufficiency of evidence.
Objectively evaluate sample results.

Question 10

Which method (non-statistical or statistical) might “hold up in court” if the CPA was sued since his “fair” opinion on the financial statements turned out to be wrong”?

Question 11

Selection of Random Sample

Answer 11

Random sample results in a statistically unbiased sample that may or may not be a representative sample.

Question 12

Unrestricted random sample

Answer 12

every item in the population has an EQUAL CHANCE of being selected for inclusion in the sample

Question 13

(the auditors should consider whether the physical representation reflects the proper population –is the population complete –

Question 14

Primary random sample techniques

Answer 14

Random number generator (For example, use IDEA or Excel).
Random number tables.
Systematic selection—selecting every nth item.
for example—10,000 checks disbursed during year
200 are going to be examined
10000/200 = 50
So pick every 50th check beginning with a random starting point

Sometimes may result in a biased sample.
For example, in some circumstances when the population is not in a random order.

Question 15

Other Methods of Sample Selection

Answer 15

Haphazard selection.
Select items on an arbitrary basis, but without any conscious bias.
(example—pulling invoices from a file drawer)

Block selection:
Block sample consists of all items in a selected time period, numerical sequence, or alphabetical sequence.
example—select transactions from April and December)
Generally CANNOT produce a representative sample

Stratification (usually used for substantive testing)
:Technique of dividing population into relatively homogeneous subgroups.(see attached slide)

Question 16

Types of Statistical Sampling Plans

Answer 16

Attributes sampling.
usually used for tests of controls (e.g. approval of cash disbursements)
used to estimate rate of occurrence of certain characteristics in a population
(deviations (errors) from performance of a prescribed control (“deviation rate”)

Discovery sampling (a type of attributes).
used to locate at least one deviation in the population—usually to uncover fraud (NOT COVERED IN THIS CLASS)

Monetary unit sampling (Module A).NOT COVERED IN THIS CLASS

Classical variables sampling (Module B).
Mean-per-unit estimation.
Ratio estimation.
Difference estimation.

Question 17

Dual Purpose Test

Answer 17

A test used both as a test of control and to substantiate the dollar amount of an account balance.
Example: Test to evaluate the effectiveness of a control over recording sales transactions and to estimate the total overstatement or understatement of the sales account.

Question 18

Allowance for Sampling Risk (Precision)

Answer 18

Amount used to create a range, set by + or – limits from the sample results, within which the true value of the population characteristic being measured is likely to lie.(see page 372)
Precision. (the allowance for sampling risk – the + or -)
The wider the interval, the more confidence but with less precise conclusion.
Can be used to construct a dollar interval.
(e.g. +or minus $10,000) (Does dollar value of an account fall within this interval)

Question 19

if we test a control and find a deviation (error) rate of 2.5%, the deviation rate in the population may not be exactly 2.5%, but if there was an ALLOWANCE FOR SAMPLING RISK of +- 2%, we will be more CONFIDENT that the true population has a deviation rate that falls between .5% and 4.5%

Question 20

Sample Size: Significant effect on allowance for

Answer 20

sampling risk and sampling risk.
Sample size increase → sampling risk and allowance for sampling risk decrease.

Question 21

Sample size affected by characteristics of population.

Answer 21

Generally: as Population increases → Sample Size increases.
In tests of controls the sample size increases with an increase in the expected deviation rate.
In substantive tests the sample size increases with an increase in the variability of the items in the population.

Question 22

Requirements of Audit Sampling Plans; when planning the sample consider

Answer 22

When planning the sample consider:
The relationship of the sample to the relevant audit objective.
Materiality or the maximum tolerable misstatement or deviation rate.
Allowable sampling risk.
Characteristics of the population.

Question 23

Requirements of Audit Sampling Plans

Answer 23

Select sample items in such a manner that they can be expected to be representative of the population.

Sample results should be projected to the population.

Items that cannot be audited should be treated as misstatements or deviations in evaluating the sample results.

Nature and cause of misstatements or deviations should be evaluated. (human error?, intentional?)

Question 24

Tolerable misstatement

Answer 24

An estimate of materiality for the particular audit test.

Question 25

deviation rate

Answer 25

A defined rate of departure from prescribed controls. Also referred to as <i>occurrence rate</i> or <i>exception rate.</i>

Question 26

Audit Sampling Steps for Tests of Controls

Answer 26

Determine the objective of the test (matching receiving reports with purchase invoices)
Define the attributes and deviation conditions
invoice not supported by a receiving document, or not supported by correct receiving document,
or quantities on receiving document do not match invoice
ANY MISSING DOCUMENT IS CONSIDERED AN ERROR (ecw-5-6-17)
Define the population to be sampled (serial numbered vouchers that support purchase invoices)
Specify:
The risk of assessing control risk too low (5%) (we will see illustrations of this)
The tolerable deviation rate (7%)
Estimate the population deviation rate (1.5%) –based on prior audits or pilot sample
Determine the sample size (from table or software)
Select the sample
Test the sample items (there has to be some evidence of performance—
completed document or initials)
Evaluate the sample results (Note: deliberate circumvention of controls indicates possible fraud)
Document the sampling procedure

Question 27

Tolerable deviation rate:

Answer 27

The maximum population rate of deviations from a prescribed control that the auditor will tolerate without modifying the planned assessment of control risk.

Tolerable deviation rate incorporates the allowance for sampling error-the + or –

Question 28

Illustration of Attributes Sampling—Determining Sample Size

Answer 28

Risk of Assessing Control Risk Too Low—5 percent.
Tolerable Deviation Rate—7 percent.
Expected Population Deviation Rate—1.5 percent.

Question 29

Attributes Sampling Evaluation of Results: 2 possible approaches:

Answer 29

Use the bracketed number from the table in slide 20. If you find that number or less deviations, conclude that you have accomplished your audit objective.

ECW likes approach number 1

Use an evaluation table for a more precise conclusion.

Question 30

Example A—No Deviations Identified (Evaluating Attributes Sampling Results)

Answer 30

Approach 1—Based on the sample size table. You have met your audit objective because you have identified 1 or less deviations. What can you say?
“I believe that the deviation rate in the population is less than 7 percent.” You will be wrong 5 percent of the time when the deviation is exactly 7 percent. If the deviation rate is in excess of 7 percent you will be wrong even less than 5 percent of the time. The planned assessed level of control risk is achieved (0 < 1).

YOU CAN CONCLUDE THAT THERE IS LESS THAN 5% RISK THAT THE POPULATION DEVIATION RATE IS GREATER THAN 7%, THE TOLERABLE RATE.

Question 31

Example B—3 Deviations Identified (Evaluating Attributes Sampling Results)

Answer 31

Approach 1—You have not met your audit objective. What can you say?
“The achieved upper deviation rate is higher than 7 percent.” The planned assessed level of control risk is not achieved. You need to consider increasing the assessed level of control risk above the planned assessed level.

Accordingly, the auditor may not “rely” on internal control to the extent planned. Thus, the auditor will need to increase the scope of substantive procedures (the nature, timing, and/or extent) (3 > 1).

ECW likes approach 1

Question 32

NOTE: if there are many errors (deviations) when testing controls –why would you continue your test. You can probably conclude control risk is in the “high” range.

The charts show only a few deviations are allowed

Question 33

Sequential (Stop-or-Go) Sampling.

Answer 33

Audit sample taken in several stages.
if an minimum required sample size can give you enough information on determining assessed level of control risk, you can stop. Otherwise increase your sample.

Question 34

Nonstatistical attribute sampling is also done in practice—

But the sample sizes are not statistically determined

Answer 34

You must still document your findings and determine whether you can assess
control risk at the planned level

Question 35

Risk of incorrect rejection-

Answer 35

possibility that sample results will indicate that an account balance is materially misstated when, in fact, it is not misstated

Question 36

Risk of incorrect acceptance-

Answer 36

possibility that sample results will indicate that an account balance is not materially misstated when, in fact, it is materially misstated

Question 37

Note—risk of incorrect acceptance affects the

Answer 37

effectiveness of the audit.

Question 38

Risk of incorrect rejection may lead to

Answer 38

inefficiency if auditors do more procedures that will reveal that account is not materially misstated. But if auditors propose adjustments based on the results of the sample and these adjustments are booked by the client, then the effectiveness of the audit is compromised since the financial statements were adjusted when they really should not have been.

Question 39

Audit Sampling Steps for Substantive Tests

Answer 39

Determine the objective of the test. – existence of accounts receivable
Define the population and sampling unit – customers in accounts receivable aging and sampling unit will be a customer balance
Choose an audit sampling technique. -we will go over a few
Determine the sample size.
Select the sample.
Test the sample items.
Evaluate the sample results.
Document the sampling procedure.

Question 40

Classical Methods:

Answer 40

Allow auditors to estimate a numerical quantity.
Rely upon the widely known normal distribution theory.
Methods we will consider.
Mean-per-unit estimation.
Difference estimation.
Ratio estimation.

Our primary emphasis will be on the mean-per-unit estimation.

Question 41

Mean per Unit:

Answer 41

Auditors estimate the mean audited value of the items in the population based on the mean of the chosen sample

Auditor then multiplies the mean times the number of items in the population to get a projected value of the population

Auditor then compares the projected value to the actual value to see If the difference is material

Question 42

Difference Estimation

Answer 42

Use sample to estimate the avg. difference between the audited value and book value of items in population.

Most appropriate when size of misstatements does not vary significantly in comparison to book value.

Question 43

Ratio Estimation

Answer 43

Use a sample to estimate the ratio of misstatement in a sample to its book value and project it to population.

Preferred when the size of misstatements is nearly proportional to the book values of the items.
Large accounts have large misstatements.

Question 44

Nonstatistical Variables Sampling

Answer 44

Less quantification of factors than with statistical sampling, in arriving at sample size and/or evaluating results.
2 basic approaches to nonstatistical variables sampling sample size and evaluating results
Unstructured—Completely use judgment to determine.
Structured—Base decisions on statistical methods.

Our emphasis is on structured.

Question 45

Since the projected misstatement is only 18 percent ($18,000/$100,000) of tolerable misstatement, it is likely that the auditors would conclude that

Answer 45

the account balance is materially correct.

Question 46

If the projected misstatement approached tolerable misstatement or exceeded
tolerable misstatement—

Answer 46

client should adjust their records, or auditors would perform additional tests on the population