Financial Statement Items – Substantive Procedures


Auditors need evidence to support the financial statement assertions.   By approving the financial statements, the directors are making representations about the information therein.  In other words they are making certain assertions about the figures and disclosures contained within the accounts.

These assertions may fall into the following categories:

  • Assertions about classes of transactions and events for the period under audit (Profit and loss):
    • Occurrence — recorded transactions and events have occurred and pertain to the entity.
    • Completeness — all transactions and events have been recorded.
    • Accuracy — amounts and other data recorded appropriately.
    • Cut-off — transactions and events recorded in the correct period.
    • Classification — transactions and events recorded in proper accounts.
  • Assertions about account balances at the period end (Balance sheet):
    • Existence — assets and liabilities exist.
    • Completeness — all assets and liabilities have been recorded.
    • Rights and obligations — the entity holds or controls the rights to assets (ownership) and liabilities are the obligations of the entity.
    • Valuation and allocation — assets and liabilities are included in the financial statements at appropriate amounts and in appropriate accounts.
  • Assertions about presentation and disclosure:
    • Occurrence and rights and obligations — disclosed events, transactions, and other matters have occurred and pertain to the entity.
    • Completeness — all disclosures that should have been included in the financial statements have been included.
    • Classification and understand ability — financial information is appropriately presented and described, and disclosures are clearly expressed.
    • Accuracy and valuation — financial and other information are disclosed fairly and at appropriate amounts.SPECIFIC AUDIT PROCEDURES

ISA 500 provides guidance on the audit procedures used for obtaining audit evidence to support the financial statement assertions.

Substantive procedures are tests to obtain the audit evidence to detect material misstatements in the financial statements.  They can be tests on transactions and balances and can be used to discover errors or omissions.


  • Inspection of tangible assets

Inspection confirms existence and valuation and gives evidence of completion.  It does not however confirm rights and obligations.

  • Inspection of documents and records

Confirmation to documentation confirms existence of an asset or that a transaction has occurred.  Confirmation that items are in the books shows completeness.  Also helps testing cut-off.  It provides evidence of valuation, measurement, rights and obligations and presentation and disclosure.

  • Observation

This procedure is of limited use in that it only confirms that a procedure took place when it was observed.

  • Inquiry and confirmation

Information sought from client or external sources.  The strength of the evidence depends on knowledge and integrity of the source of the information.

  • Recalculation and Re-Performance

Checking calculations of client records

  • Audit automation tools

Such as computer assisted auditing techniques

  • Analytical procedures

Analysis of significant ratios and trends including the resulting investigations of fluctuations and relationships that are inconsistent with other relevant information or which deviate from predictable amounts.


Typical tests associated with assertions

 Review of post year end transactions

Cut-off tests

Analytical review

External confirmations

Reconciling to control accounts

Checking number sequences


Checking to invoices

Recalculation of amount by auditor

Review of post year end transactions

Reviewing accounting policies for consistency of application and for appropriateness for entity


 Physical verification

External confirmations


Rights and obligations
Examination of invoices

External confirmations


Inspection of documentation

Physical verification

Review of minutes of directors meetings

Enquire from management


Re-calculation by auditor

External confirmations

Review by external expert valuation

Analytical review


True and fair view given

Compliance with accounting standards and appropriate legislation



Overall Approach

When auditing a particular area it is useful to bear the following process in mind:

  • Carry out analytical review procedures.
  • Always agree back the opening balances with last year’s working papers and the final trial balance and last year’s signed audited accounts.
  • Examine the schedules given to you by the client and check a sample of the items to the accounting records while selecting a sample from the accounting records and matching back to the schedule.
  • Test the transactions and balances in detail.
  • Review the nominal ledger account for any unusual items.
  • Agree the balance into the final trial balance and a draft set of accounts if available and review the presentation and disclosure in those accounts.

Remember, the audit tests carried out should be tailored to the specific entity taking into account factors such as:

  • The significance of any risk of misstatement and the likelihood that it will occur
  • The characteristics of the class of transactions or account balances
  • The level of materiality set
  • The nature of any specific controls and whether the auditor obtained evidence that controls are effective and operating effectively in preventing, or detecting and correcting material misstatements.




 Non-current assets

We will look at two types, tangible fixed assets and intangible assets. Tangible fixed assets

The key audit objectives are existence, completeness, valuation and rights and obligations.

Before designing tests the auditor should take into account any relevant internal control considerations such as:

  • The existence and operation of a fixed asset register.
  • Procedures for authorisation and accounting for additions and disposals.
  • Physical security procedures.
  • The adequate maintenance of assets and the provision of depreciation.


Audit programme -Tangible fixed assets

Assertion – Completeness
 Obtain a summary of the assets showing the gross book value, the accumulated depreciation and the net book value and reconcile this with the opening position.

Reconcile the summary with the nominal ledger and the asset register and follow up on any discrepancies.

Physically inspect whether items on the summary actually exist.


Assertion – Existence
Confirm that entity physically inspects all assets each year.

Inspect a sample of items on asset register paying attention to high value, portable and any material additions during the year and check that they are in use and in good order.


Assertion – Valuation
Verify valuation of buildings to a valuation certificate, having regard to the experience of the valuer, his scope of work, the methods and assumptions he uses and whether the valuation bases are in line with accounting standards.

Check whether any surplus/deficit has been calculated correctly and is recognised in the profit and loss account or statement of total recognised gains and losses whichever is appropriate.

Check whether regular valuations are being carried out.

For other asset types examine the purchase invoice or other supporting documentation.

Review depreciation rates and policies and assess their appropriateness having regard to the entity itself, asset lives, residual value, replacement policy, past history profits/losses on disposal and possible obsolescence.

Check that depreciation is charged on all assets in use and that none is charged on fully depreciated or disposed assets.

Check the calculation of a sample of depreciation charges.

Carry out analytical review procedures such as comparing depreciation to previous years.

Review accounts for policy and rates disclosures.

Review the current insurance policies in place and consider the adequacy of the insured amounts.


Assertion – Rights and obligations
Inspect title deeds, leases and land registry certificates.

Confirm through lawyers that deeds are free from charge.

Inspect car registration documents.

Examine documents of title for other assets including invoices, lease agreements, contracts or architects certificates.

Review statutory books and leases and agreements to ensure all charges and commitments are noted.

Examine post year end transactions and minutes of management meetings for any evidence of capital commitments.


Additional testing is carried out on additions, disposals and where an entity constructs its own assets.

Additions- rights and obligations, valuation, completeness
Inspect architects’ certificates and suppliers’ invoices.

Check whether the capitalising of the asset is correct and whether there is consistency with previous years.

Check whether amounts are posted to correct accounts in nominal ledger.

Check whether the additions have been authorised.

Where assistance or grants are available, check that such are claimed and have been received and correctly accounted for.

Check additions are recorded on the asset register.


Disposals- rights and obligations, completeness, occurrence and measurement
1.     Verify disposals with supporting documentation, checking transfer of title, sales price and dates of completion and payment.

2.     Check calculation of profit and loss and has it been recorded properly.

3.     Check that disposals are authorised.

4.     If the asset is used as security, ensure that a release has been correctly made.


In-house construction of assets-valuation and completeness
1.     Verify material and labour costs to suppliers’ invoices and payroll records.

2.     Ensure expenditure is capital. It should enhance the economic benefits, replace or restore a component or relate to a major inspection or overhaul.

3.     Check whether finance costs are capitalised.




Intangible fixed assets

The key assertions relating to intangibles are existence and valuation.

Audit programme

Examine the sales agreement for the amount of the consideration and check that the asset valuation is reasonable.

Check that the calculations are correct.

Examine the impairment review for reasonableness.


Intangibles- e.g. trademarks
Inspect the purchase documentation.

Review valuation prepared by specialists to ensure reasonableness.

Review the amortisation calculations.


Research and development costs
1.     Ensure amounts capitalised agree with IAS38.

2.     Confirm feasibility and viability by reference to budgets and other documentation.

3.     Check the amortisation calculations.




The key assertions are existence, valuation, completeness and ownership.

IAS 2 states that stock should be measured at the lower of cost and net realisable value.  

Costs would include cost of purchase and any other costs incurred in bringing the stock to its present condition and location.  That could include production overheads.

Net realisable value is likely to be less than cost where costs are increasing at a faster rate than sales prices, or costs falling slower than sales prices, products becoming obsolete or deterioration in quality and possible strategic decisions to sell products at a loss.

The first key assertion is existence.  ISA 501 additional considerations refers to attendance at a physical stock count.  It states that an auditor should attend such a count to vouch the existence and condition of such stock.  Non-attendance coupled with an inability to obtain alternative sufficient and appropriate evidence could lead the auditor to conclude that there has been a limitation in the scope of the audit.

Types of stock counts

  • Physical count at year-end
  • Physical count before year-end
  • Perpetual counts (throughout year)

Counting at the year-end is better but some companies will count before year-end or have a system of counting throughout the year. In the latter two, the auditor will need to consider the systems of internal control over the stock process. The auditor will need to ensure that adequate inventory records are kept, satisfactory procedures for counting and test checking exist and all material variances are investigated, corrected and authorised.

Attendance at a count gives the auditor evidence over the existence of stock, its ownership and also completeness.  It is vital therefore that a stock count is well managed to ensure that all stock which is owned by a company is counted accurately.

The auditor needs to pay special attention to the organisation of the count, the actual counting and the recording of those results.  What levels of supervision will management employ, controls over movement of stock during counting, identification of slow moving stock, controls to ensure all stock is counted, who will carry out test checks, control of stock sheets, data to be recorded, recording of cut-off details, reconciliation of records and follow up corrections etc.

As for the auditor himself, he needs to consider the nature and volume of the stock, any documented risks, identification of high value items and locations among other things before deciding on what test counts to perform.  It will be important to ensure a representative sample of locations and stock.

Audit programme-Stock

Attendance at stock count
1.     Check that all audit staff on the count are aware and understand the count instructions and ideally should have a written copy.

2.     Perform test counts to ensure procedures are working properly. Test counts are performed by selecting items from count sheet and re-performing count or identifying physical stock, counting it and tracing to the stock sheets. Ensure all results are documented.

3.     Ensure procedures over damaged and slow moving stock are operating and note instances where these stocks are identified for further follow up at year-end.

4.     Confirm third party stock is separately identified and accounted for.

5.     Conclude as to whether count has operated in line with plan and is reliable for determining the year-end stock figure.

6.     Document all cut-off numbers and details of count sheets.

On final audit visit
1.     Trace all items that were test counted to the final stock sheet.

2.     Check all count sheets have been included on final stock sheet.

3.     Trace some items from final stock sheet back to the count sheets.

4.     Confirm cut-off is ok by tracing relevant numbers through each of the processes namely, sales and purchases.

5.     Check replies from third parties for stock held by them or for them.

6.     Check the prices applied for valuation purposes and check calculations.


Cut-off is vital to the accurate recording of transactions.  It is important that the physical receipt of goods and the supporting documentation are recorded in the correct period.

The auditor needs to assess the controls which management have in place to ensure cut-off is applied properly.

Purchase invoices should be recorded as a liability only if goods are received prior to the year-end count.  While invoices for sales despatched after the stock count should not appear as sales for the period up to the year-end.

Cut-off testing- at count
 Record all movement of stock if these have not been stopped during the count.

Note last goods received note in and last goods despatch note out.

Observe cut-off procedures applied by staff at point of entry/exit.


Final audit visit testing
 Match goods inwards notes with purchase invoices to ensure liability is recorded in correct period.

Match goods despatch notes with sales invoices to ensure income is recorded in the correct period.



Valuation – Lower of cost and net realisable value

The auditor must ensure that the company is applying an allowable costing method consistently.  He should review prices changes, old or obsolete stock and review the profit margins data.

Stock can include raw materials, work-in-progress and completed stock.

At the outset the auditor should apply analytical review procedures.  It may assist in comparing the current year’s analysis of figures with previous year’s, highlighting areas for further review.


Audit programme

Production costs
1.     For all materials: check the price used to purchase invoices or price lists, confirm the valuation basis is being used and check the quantity and the calculations.

2.     For labour costs: check the payroll records for hours and rates of pay.

3.     If standard labour costs are used, check the actual costs and production and review the variances to assess whether standard rate is reasonable.

Allocation of overheads
1.     Check that all abnormal conversion costs (idle capacity, inefficient production, reduced levels of activity) are excluded from the allocation.

2.     Check overheads are classified by function.

3.     Check general management costs are excluded.

4.     Ensure only costs that can be reasonably allocated to the production function are included.

Cost versus NRV
1.     Review and test the company’s controls for identifying slow moving, obsolete or damaged stock.

2.     Trace all items from test counts to the final stock valuation report ensuring adequate provision was made.

3.     Examine stock records to identify slow moving stock and check whether a write down exists. Enquire of same where no write down exist.

4.     Examine prices after the year-end and assess whether valuations need adjusting.

5.     Review stocks sold post year-end to assess whether year-end stock has been realised and consider whether appropriate provisions are needed.


Accounts receivable & sundry debtors

Key assertions are completeness, accuracy, existence, rights and obligations and valuation.

In the first instance the auditor should obtain a list of outstanding debtor balances from the sales ledger, ideally each balance should be aged.  To obtain evidence in relation to completeness and accuracy the auditor should:

  • Check the balances from the list and match to the sales ledger.
  • Check balances within the sales ledger and match to the list.
  • Reconcile the total of the list to the total of the sales ledger balances and the debtors control account in the nominal ledger.


ISA 501 additional considerations and ISA 505 external confirmations refer to the confirmation of accounts receivable.  Verification from external sources is strong evidence for existence of rights and obligations.

A sample of balances on the listing should be circularised.  Ideally, it should be the year-end balance tested and authorisation must be received from the client.  The client can authorise third parties to divulge information to the auditors.

Where management refuse the request for all or individual balances selected, the auditor needs to consider whether there are valid grounds for such action and obtain evidence to support the validity of that claim.  If the auditor accepts this, alternative audit procedures will need to be carried out for those items refused the request.  In the event that the auditor does not accept management’s decision, there is a limitation on the scope of the audit and this could have an impact on the audit report.

The letter is drawn up by the client (standard form) asking the customer to confirm details with the auditor directly.  The form of the letter can be a positive or negative confirmation.  The former asks a customer to confirm a figure, the latter asks for a reply if the amount is disputed.  A positive confirmation is more generally preferable.

It is important for the auditor to control the despatch of and the return of these letters directly to himself (inclusion of addressed & pre-paid envelope), even though they are prepared and signed by the client.

When selecting the sample the auditor needs to pay special attention to large balances, old unpaid accounts, accounts written off, credit balances, accounts with part payments only and nil balances.

Many customers do not respond or disagree with the quoted balance.  In these cases, follow up procedures are required.  The extent of these tests will depend on each case and its specific circumstances.

Disagreements can arise for a number of reasons:

  • On-going dispute between client and customer
  • Cut-off problems exist
  • Time lag of monies in post or processing to an account
  • Items posted to wrong accounts
  • Netting off balances where you have sales and purchases with a customer
  • Incorrect postings to accounts for whatever reason

There should be some follow up for customers who do not respond such as additional phone queries or assistance from client.  Failing that, alternative testing needs to be done:

Accounts receivable – alternative procedures
Review post year-end receipts.

Verify that valid sales orders exist and goods were despatched.

Examine invoices specifically making up the account balance.

Enquire from management as to why debt remains unpaid.


Disputed amounts and errors by client may need further audit procedures to be carried out to determine whether these amounts are material and require adjustment in the accounts.

Valuation of year-end balances depends on the evidence of collectability of debts.  Auditor needs to be aware of bad and doubtful debts.

Bad debts
1.    Confirm adequacy of provision. Inspect correspondence, lawyers’ letters, debt collection reports etc.

2.    Examine customer accounts, particularly age of debts against credit policy to ascertain whether a provision is required.  Look out for round sum payments, earlier invoices left unpaid, correspondence on file.

3.    Review general provisions for reasonableness.

4.    Examine credit notes processed after year-end to assess whether year-end balances remain valid.

5.    Test accuracy of aging of accounts.

6.    Scrutinise unapplied credits or unallocated cash receipts.

7.    Review accounts and debtors control account for unusual items such as journals transferring balances, clearing balances and enquire of same.


Cut-off testing-evidence for accuracy
Obtain details of last despatch note out and last goods returns note in.

Select a sequence of movement notes before and after the cut-off point and match to invoices and credit notes in the correct accounting period.

Select a number of invoices and credit notes and match back to the appropriate despatch notes and goods returns notes.

Follow up and assess any exceptions.


  • Compare prepaids with previous years using analytical procedures.
  • Verify prepaids to payments book and supporting documentation.
  • Check calculation for reasonableness.
  • Review nominal ledger accounts for journal adjustments for prepaids.

Sundry debtors

Balances such as employee loans can be confirmed directly with employees or through the payroll system.


The auditor needs to consider the income and the asset.  Investments can fall under the following headings:

  • Investments in companies whether listed or unlisted
  • Investment in subsidiary and associated companies
  • Investment properties

The auditor needs to consider a couple of key internal controls such as authorisation over investment dealings and the segregation of duties re the recording and custody roles which should be kept separate.

Audit programme – Investments

  • Examine certificates of title and confirm that they are bona fide complete title documents in the clients name and free from any charge or lien.
  • Examine confirmation from a third party investment custodian and check investments are in the clients name and are free from charge or lien.
  • Inspect certificates of title held by third parties who are not bona fide custodians.
  • Inspect letters of trust to confirm client owns nominee shares.
  • Review minutes and other statutory books for evidence of charging.
  • Verify purchases to agreements, contract notes and correspondence.
  • Confirm purchases were authorised.
  • Check with appropriate financial data suppliers that all reported capital changes bonus or rights issues have been correctly accounted for.
  • Verify disposal with contract notes and sales agreements.
  • Check whether investments disposals have been authorised.
  • Confirm that profit or loss on sale of investments have been correctly calculated taking into account bonus issue of shares, consistent basis of identifying cost of investment, rights issues, accrued interest and taxation.
  • The auditor should establish that the company’s policy on valuing investments has been correctly and consistently applied.
  • Confirm the value of listed investments by reference to stock exchange.
  • Review accounts of unlisted companies and assess the net asset value of the shares and the value of the investment and ensure that it is reasonable.
  • Check that there is no substantial fall in the value of the investments.
  • Check whether the current asset investments are included at the lower of cost or net realisable value.
  • Ensure that the investments are properly categorised in the financial statements into listed and unlisted.


Investment properties

IAS 40 sets out the criteria for the validity of an investment property.  It is property whether land or buildings held rather than for use in the ordinary course of business. There are different standards applicable depending on the type of the property:

  • Property held for sale in ordinary course of business – IAS 2 inventories
  • Property being constructed on behalf of third parties – IAS 11 construction contracts
  • Owner occupied property – IAS 16 property plant and equipment
  • Property being constructed for future use as investment property – IAS 16 –“…until construction or development is completed then treat as an investment property”.

Audit programme-Investment properties

  • Verify rental agreements, ensuring that occupier is not a connected company and that the rent has been negotiated at arm’s length.
  • If the building has recently being built, check the architect’s certificate to ensure that the construction work has been completed.
  • IAS requires that investment properties either be held at cost or at fair value. The auditor should verify this to a valuer’s cert., as professional valuation is encouraged under the IAS.
  • The auditor should seek to verify the cost to appropriate evidence such as purchase invoice, or if self-constructed, costing records, payroll etc.
  • The auditor should review the disclosures made in the financial statements in relation to investment properties to ensure that they have been made appropriately, in accordance with IAS 40.


Bank and cash balances

Audit work will focus on the completeness and accuracy of balances.  The key assertions are completeness, existence, rights and obligations and valuation.

The main audit procedures will concentrate on external confirmation of balances and reviewing the bank reconciliation process.

The bank confirmation letter is sent to the banks to complete and return to the auditor direct.  The client will authorise this process.  As well as the balance on any accounts held, the details should include any other relevant information such as guarantees, lines of credit, comfort letters, securities, interest terms and interest payable or receivable. The letter is in a standard form which is agreed by the banks and the various accountancy bodies.

The auditor should send letters to all banks that the client deals with ( current account, deposits, loans etc.) and should control the despatch of and the return of completed letters directly to himself (include pre-addressed & pre-paid envelope).

Cut-off or more commonly known as window dressing can occur.  Companies attempt to overstate or understate balances for varying reasons.  Examples include, keeping books open to record receipts actually received in the New Year thereby pushing up bank balance and reducing debtors.  Recording cheques in the current year, but not actually releasing them until the New Year, will decrease the bank balance and reduce trade creditors.  These examples present an artificial scenario.

Bearing this in mind the auditor should examine bank paying-in slips for evidence of lodgement and examine supplier statements and bank statements to ascertain the length of time paid cheques are taking to clear.


Audit programme- Bank balances

  • Obtain standard bank confirmations from all relevant banks. Agree each balance to the accounting records and note all other relevant comments for disclosure in accounting notes.
  • Obtain bank reconciliations for each bank account operated.
  • Check the arithmetic calculations of these reconciliations.
  • Trace outstanding cheques to the payments book prior to the year-end and to the post year-end bank statements. Enquire as to any large or unusual items not cleared at the time of the audit.
  • Compare cash books and bank statements in detail for the final month and check that un-reconciled items are appearing on the bank reconciliation.
  • Review the reconciliations for older items and enquire as to their validity.
  • Trace outstanding lodgements back to cash book before year-end and bank statement post year-end. Review bank paying-in slips.
  • Match balances per the cashbooks to the ledger and the reconciliations.
  • Scrutinise the cashbooks and the bank statements for any large or unusual items and follow up on same.
  • Identify whether any of the accounts are used as security on the assets of the company.
  • Consider whether there is a legal right of set-off of accounts.


Cash balances, whether petty cash or floats for staff, are often immaterial, but may require some audit work because of the risk of fraud particularly where internal controls are weak.  Also, the auditor needs to consider that some entities, such as retail organisations and hotels/bars, will hold large cash sums.

Where cash balances are potentially material, the auditor should conduct or be in attendance at a cash count.  Similar to a stock count, the auditor needs to pay attention to the planning, the count and follow up procedures.

Audit programme – Cash count

1.     Count all cash balances and agree to petty cash book or other record kept.

2.     Count all cash at same time and ensure all work is done in presence of staff.

3.     Obtain a certificate of cash in hand from staff member.

4.     Enquire about IOUs or cheques cashed.

5.     Confirm balances are in agreement with the accounts.

Verify that IOUs and un-cashed cheques have subsequently been dealt within a reasonable period of time.


Accounts payable, accruals, provisions for liabilities

Testing for understatement and completeness is very important for all liabilities.


Trade creditors

The primary objective will be to ensure that all trade creditor liabilities existing at the yearend are completely and accurately recorded.  To ensure this the auditor needs to pay special attention to cut-off testing and reconciling purchase ledger accounts to supplier statements.  The purchase cycle test of controls will hopefully have provided the auditor with some degree of comfort over the completeness of liabilities.

In the first instance the auditor should obtain a list of outstanding trade creditor balances extracted from the purchases ledger.  The following substantive procedures should be carried out:

  • Check the balances from the list and match to the purchases ledger.
  • Check balances within the purchases ledger and match to the list.
  • Reconcile the total of the list to the total of the purchases ledger balances and the creditors control account in the nominal ledger.
  • Check all arithmetical calculations.
  • Obtain a sample of suppliers’ statements, reconcile and trace back each of the reconciling items to source documentation. Agree the ledger balance and the statement balance to the reconciliation.
  • Ensure that all trade accruals are correctly accounted for.
  • Follow up on un-cleared year-end items at the time of the audit.


The sample should not be just kept to large balances. Understatement of balances is where the risk is.  Look at nil balances, low balances for major suppliers and debit balances.

The auditor doesn’t generally seek external confirmation as the quality of evidence that a supplier’s statement provides is good.  However, in rare circumstances he might just do that, such as, if statements are missing, deliberate attempts to falsify documents or if the balance is unusual compared to the norm.

Cut-off testing-evidence for completeness
Obtain details of last good received note in and last goods returns note out.

Select a sequence of movement notes before and after the cut-off point and match to invoices and credit notes in the correct accounting period or a list of trade accruals where necessary.

Select a number of invoices, credit notes and items per the list of trade accruals and match back to the appropriate goods received notes and goods returns notes.

Follow up and assess any exceptions.

Review outstanding purchase orders for any evidence of any purchases completed but not invoiced.

Review the creditors control account for any unusual transactions around the yearend.




Reservation of title

This is where a seller may retain legal ownership of goods until fully paid for.  The auditor needs to ascertain how the client identifies these and should review and test the procedures for estimating liabilities.  He should also review the terms of major suppliers to confirm that all liabilities have been accounted for.  He should consider whether disclosures are sufficient.


Analytical procedures should be applied to accruals in seeking to gather evidence over their valuation and completeness.  The auditor needs to consider last year’s accruals and known expense items where you may expect an accrual.

Audit programme- accruals
Check calculations are reasonable, based on supporting documentation and subsequent year-end payments.

Scrutinise the payments after the year-end for large or unusual items that should be treated as an accrual.

Review the profit and loss account for those headings which may indicate an accrual exists.

Check accruals exist for payroll and vat liabilities.


Provisions for liabilities and contingencies

A provision should be accounted for as a liability.  Contingencies in general should be disclosed.  The auditor needs to ensure there has been correct classification according to IAS 37, provisions, contingent liabilities and contingent gains.

IAS 37 defines a provision as a liability of uncertain timing or amount.

A liability is a present obligation of an enterprise arising from past events, the settlement of which is expected to result in an outflow from the enterprise.

An obligation is an event that creates a legal or constructive obligation that results in an enterprise having no realistic alternative to settling that obligation.

A legal obligation derives from a contract through its explicit or implicit terms, legislation or some other operation of law.

A constructive obligation derives from established patterns of past practice or published policies through which a valid expectation is created on the part of another party.

A contingent liability is a:

  • possible obligation that arises from past events and whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the enterprise or a
  • present obligation that arises from past events but is not recognised because it is improbable that an outflow of resources will be required to settle the obligation or the amount of the obligation cannot be measured with sufficient reliability.


A contingent asset is a possible asset that arises from past events and whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the entity.

Under IAS 37, an entity should not recognise a contingent asset or a contingent liability.  However, if it becomes probable that an outflow of future economic benefits will be required, then a provision should be recognised.  A contingent asset should not be accounted for unless its realisation is virtually certain.  If an inflow of economic benefits has become probable, the asset should be disclosed.

  • Where there is a present obligation that probably requires an outflow of resources, then a provision should be recognised and disclosed.
  • Where there is a possible or present obligation that may, but probably will not, require an outflow of resources then no provision should be recognised but disclosures are required for the contingent liability.
  • Where there is a possible or present obligation where the likelihood of an outflow of resources is remote, then no provision is recognised and no disclosure is required.


A contingent liability also arises in the rare case where there is a liability that cannot be recognised because it cannot be measured reliably.  Disclosures are required in this instance.

Contingent assets

  • Where the inflow of economic benefits is virtually certain, the asset is not contingent.
  • Where the inflow of benefits is probable but not virtually certain, then no asset is recognised but disclosures are required.
  • Where the inflow is improbable, then no asset or disclosures are recognised.


Examples of contingencies disclosed by companies are guarantees for other group companies, staff pension schemes, completion of contracts, discounted bills of exchange, law-suits or claims pending and options to purchase assets.

Obtaining audit evidence of contingencies

The auditor should carry out audit procedures in order to become aware of any litigation and claims involving the entity, which may result in a material misstatement of the financial statements. Such procedures would include the following:

  • Make appropriate inquiries of management including obtaining representations
  • Review minutes of management meetings and correspondence with the lawyers.
  • Examine legal expense accounts
  • Use any information obtained regarding the entity’s business including information obtained from discussions with any in-house legal department.


When the auditor assesses a risk of material misstatement regarding litigation or claims that have been identified or when the auditor believes they may exist, the auditor should seek direct communication with the entity’s legal counsel.

This will help to obtain sufficient appropriate audit evidence as to whether potential material litigation and claims are known and management’s estimates of the financial implications, including costs are reliable.

The letter, which should be prepared by management and sent by the auditor, should request the entity’s legal counsel to communicate directly with the auditor. When it is considered unlikely that the entity’s legal counsel will respond to a general inquiry, the letter would ordinarily specify the following:

  • A list of litigation and claims
  • Management’s assessment of the outcome of the litigation or claim and its estimate of the financial implications, including costs involved.
  • A request that the entity’s legal counsel confirm the reasonableness of management’s assessments and provide the auditor with further information if the list is considered by the entity’s legal counsel to be incomplete or incorrect.


The auditors must consider all matters up to the date of their audit report so further contact may be necessary with the lawyer.  This can only take place with the permission of management and may be required where a disagreement/complex matter arises.

If management refuses to give the auditor permission to communicate with the entity’s legal counsel, this would be a scope limitation and could lead to a qualified/disclaimer of opinion.

Where the entity’s legal counsel refuses to respond in an appropriate manner and the auditor is unable to obtain sufficient appropriate audit evidence by applying alternative audit procedures, the auditor would consider whether there is a scope limitation that may lead to a qualified opinion or a disclaimer of opinion

Audit programme

  • Obtain details of all provisions that have been included in the accounts and all contingencies that have been disclosed.
  • Obtain a detailed analysis of all provisions showing the yearly movements.
  • Determine for each material provision whether the company has a present obligation as a result of past events by review of correspondence and discussion with directors.
  • Determine for each material provision whether it is probable that a transfer of benefits will be required to settle the obligation by checking whether any payments have been made in the post balance sheet period in respect of the item and review of correspondence with lawyers, banks, customers insurance company and suppliers.
  • Recalculate all provisions made and assess their reasonableness.
  • Compare the amount provided with post year-end payments and with any amount paid in the past for similar items.
  • In the event that it is not possible to estimate the amount of the provision, check that there is disclosure in the accounts.
  • Consider the nature of the client’s business for example would you expect to see any other provisions such as warranties.
  • Consider the adequacy of disclosure of provisions and contingencies.


Long term borrowings

These are loan stock, debentures and any other loans repayable after more than one year from the year-end date.  The auditor will be concerned with completeness, measurement and disclosure.  He needs to pay attention to agreements as compliance with them is a must.

Audit programme- long term loans

  • Obtain a schedule of all outstanding loans. Details should include balance, maturity date, interest rates and security details.
  • Agree opening figures to the closing figures from last year.
  • Check the arithmetic calculations.
  • Confirm the balances per the list agree to the nominal ledger.
  • Check the names on the list to the register of debenture holders.
  • Trace all additions and repayments to the cashbooks.
  • Confirm that all repayments are in agreement with the loan agreements.
  • Confirm that borrowing limits have not been exceeded.
  • Examine evidence from board minutes relating to new borrowings.
  • Obtain external confirmation from borrowers as to the closing balance, accrued interest and any security noted. Also note any indications of non-compliance.
  • Verify the interest charged is correct by recalculating.
  • Confirm that any assets charged have been entered in the registrar of charges.
  • Review restrictive covenants relating to default conditions.
  • Review board minutes and cashbooks to ensure that all loans have been recorded.



The auditor will be concerned with ensuring that:

  • Share capital has been properly classified and disclosed in the financial statements and charges properly authorised.
  • Movements on reserves have been properly authorised and in the case of statutory reserves only used for permitted purposes.
  • Statutory records have been properly maintained and returns dealt with.



Audit programme-

Share capital
Agree the authorised share capital with the statutory documents.

Agree any changes to properly authorised resolutions.

Check all movement on reserves to supporting authority.

Ensure no movement on reserves contravenes company law or the company’s own rules.

Confirm that distributable and non-distributable reserves are distinguished.

Ensure there is adequate disclosure in the accounts of any movement.

Issue of shares
Verify with board minutes and resolutions and general meeting.

Ensure issue or change of shares is in line with company’s constitution and that the directors have the authority to issue such shares.

Confirm that cash or other consideration has been received in respect of the issue of shares.

Transfer of shares
Verify by reference to complete stamped transfer forms, cancelled share certificates, correspondence and minutes of directors’ meetings.

Agree balances on shareholders’ accounts in the register of members to the issued share capital figure in the nominal ledger.

Agree dividends paid to the authority within the minutes of the board of directors’ meetings and check the calculation.

Check dividends do not contravene the distribution provisions.

Check that any withholding tax has been calculated correctly and appropriately accounted for.

Minute books
Review minutes of all meetings and make note of significant items for cross referencing in the audit file.

2Note the date of the last minute reviewed.

Check that meetings have been properly convened.

Register of interests in shares
Scrutinise register and verify that it is in order.

Ensure that significant interests are noted.

Register of charges
Update any changes to the permanent audit file.

Ensure that any asset which is charged as security for a loan is disclosed in the accounts.

Do a company search with the Office of Registrar General to verify the accuracy of the register.

Register of directors’ interests in shares
 Ensure that such interests are noted for disclosure in the accounts.

Ensure that the shareholdings comply with the company’s constitution.

Register of directors
Update the permanent audit file for any changes in details.

Verify all changes with minutes and ensure proper statutory returns have been made

to the applicable authorities for example: to the Office of Registrar General.

Verify that the number of directors complies with the company’s constitution.

Directors service contracts
 Inspect copies of the contracts.

Verify that long term contracts have been approved in General meeting.

Statutory returns
1. Check that all returns are filed promptly.
Accounting records
Consider whether the accounting records are adequate to show and explain the company’s transactions, disclose with reasonable accuracy the financial position of the company and comply with company law.

Check that the figures contained in the accounts can be traced back to the trial balance, and back to the nominal ledger.


  •  Sales and purchases


A lot of work on sales is done in conjunction with the audit tests on debtors.  The auditor will seek to ensure that all sales are completely and accurately (cut-off) recorded.

Analytical review is important when testing completeness. The auditor needs to consider the level of sales over the year compared to the previous year, any major changes in quantities sold, price movements, level of returned goods, allowances and discounts.  He should also look at the gross margins, ideally broken down by product and time periods.  Further procedures could be carried out depending on the outcome of the analytical review.

The auditor may also do some directional testing to ensure completeness of transactions.  Tracing goods despatch note records to sales ledger accounts.  He should also review the sequence of despatch notes.  To ensure accurate recording he should trace items from the sales ledger back to the despatch notes.  This may highlight sales which have been invalidly recorded or which might not have occurred.

Cut-off tests similar to those done for stock or debtors can be carried out to ensure that sales are recorded in the correct period.

Goods on sale or return should be included in inventory at cost and should be reversed out of sales.


The auditor is concerned with the accurate recording of purchases, their completeness and occurrence.  Cut-off would need to be looked at as well, but this work will have been done at the stock and creditor phases of the audit.

As with sales, the use of analytical review procedures is very important.  The auditor should compare the levels of purchases month on month and with corresponding figures from the previous year.  He will also need to consider what effect changes in volumes will cause and the effect of new products, altered products and any price variations. He should also look at ratios such as the rate of trade creditors balances to purchases or to inventory and compare with previous years.

The auditor should check purchases from the daybooks to relevant supporting documentation to assess whether the purchase is valid and if it has been allocated to the correct account in the general ledger and posted correctly also.  

Wages and salaries

Many expenses are audited solely by analytical review procedures.  However, more detailed testing is usually carried on the payroll due to the consequences of a failure to deduct and/or account for payroll taxes correctly.

In applying the analytical review procedures, the auditor will consider the payroll levels over each month and compare with the previous year’s figures.  He will also consider wage rate changes during the year and the movement of staff in and out of the organisation.  Some ratios that may be useful are average wage per month to sales and/or net profit per employee.  Audit tests – Payroll

Tests – Occurrence
 Check pay rates to personnel records and salary agreements.

Check hours paid to timesheets, clock cards.

Confirm existence of staff through face to face meetings, check phone book, discuss with managers etc.

Tests – Measurement
Check accuracy of calculations of pay, and statutory deductions are correct.

Check for supporting documentation in respect of other deductions to establish their validity and check the accuracy of the calculation.

Tests – Completeness
  •   Check the arithmetic calculations on the payroll records.
  •   Confirm net payment to bank statement and payments book.
  •  Scrutinise the payroll for any unusual items.
  •  Review wages control account for any discrepancies.


Directors’ remuneration is disclosed in the accounting notes and as such could be considered to be material.  Directors’ salaries will be audited as part of the payroll but a few additional checks should be carried out.

The auditor should check whether there have been any benefits-in-kind and review the director’s service contracts. In addition, he should ensure that all payments made to former directors are properly identified and disclosed. 

Other income and expenditure

Investment income

The basis of recognising investment income may vary from company to company particularly for dividends.  Credit may be taken only when received, when declared or taken only after ratification of the dividend by the shareholders in general meeting.  Whichever is the basis, a consistent one must be applied from year to year.

The auditor will be concerned with completeness, occurrence and measurement.  To address these issues he should:

  • Check that all income due has been received by reference to financial statements for unlisted companies and other available financial data.
  • Review investment income account for irregular or unusual entries.
  • Ensure that the basis of recognising income is consistent with previous years.
  • Compare investment income with prior years and explain any significant fluctuations.
  • Obtain a statement reconciling the book value of the listed and unlisted investments at the last balance sheet date and the current balance sheet date.

Income from intangibles

Review sales returns and statistics to verify the reasonableness of income derived from patents, trademarks licences etc. and examine audited accounts of third party sales covered by patent, licence or trademark owned by the company. Expenses

The auditor is concerned with the accurate recording of expenses, their completeness and occurrence.  In general, analytical review procedures are applied.

The auditor would compare this year with last and assess likely outcomes based on relationships of figures between the balance sheet and the profit and loss account.  Typically, depreciation and interest paid could be reviewed in this way.

Based on the result of the analytical review procedures, further work may need to be carried out.  This would entail reviewing the individual transactions within the nominal ledger account and tracing back to supporting documentation.  A lot of work on expense headings may already have been carried out while auditing the prepayments and the accruals.  


Summarise errors

During the course of the audit of financial statements, there will be material or immaterial errors uncovered.  The client will normally adjust the financial statements to take account of these errors.  At the end of the audit however, there may be some outstanding errors and the auditors will summarise these unadjusted errors.

Evaluating the effect of misstatements

The auditor should assess whether the aggregate of uncorrected misstatements that have been identified during the audit is material.

The aggregate of uncorrected misstatements are:

  • Specific misstatements identified by the auditor, including ones identified during the audit of the previous period if they affect the current period, and
  • The auditor’s best estimate of other misstatements which cannot be quantified specifically.

If the aggregate of misstatements is material, the auditor must consider reducing audit risk by carrying out additional testing.  Otherwise, he may request management to adjust the financial statements for the identified misstatements which the latter may wish to do anyway.

If the aggregate of the misstatements approaches the level of materiality, the auditor should consider whether it is likely that undetected misstatements, when taken with the aggregated uncorrected misstatements, could exceed the materiality level.  If so, he should consider reducing the risk by performing additional testing or as before requesting management to adjust the financial statements for the identified misstatements.


If there are no issues or any uncorrected material misstatements, the auditor will probably issue a clean audit report (unmodified).

 If there are uncorrected material misstatements and management agree to adjust the financial statements, the auditor will probably issue a clean audit report.

If management refuses to adjust the financial statements and the results of any extended audit procedures do not enable the auditor to conclude that the aggregate of the uncorrected misstatements is not material, then the auditor needs to consider a qualification in his audit report (modified).

If management refuses to adjust the financial statements but the results of any extended audit procedures enable the auditor to conclude that the aggregate of the uncorrected misstatements is not material, then the auditor may issue a clean audit report.  However, the auditor would need to consider the actions of management in this case.

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