Chapter 5: Gathering Assurance Evidence

Certificate Level

Chapter 5: Gathering Assurance Evidence

65% Complete

Understood Needs Study

Needs Study

Chapter Contents

Purpose and Learning Goals 5.1 Why Evidence Matters 5.2 Types of Evidence 5.3 Assertions 5.4 The Audit Risk Model 5.5 Tests of Control vs Substantive Procedures 5.6 Sampling 5.7 Documentation and Working Papers 5.8 Written Representations

Purpose and Learning Goals

This chapter explores how assurance practitioners gather and evaluate evidence to support their conclusions. Evidence is at the core of assurance: without sufficient and appropriate evidence, no reliable opinion can be given.

By the end of this chapter, you will be able to:

• Explain the importance of assurance evidence.
• Distinguish between types and sources of evidence.
• Understand the role of assertions in financial reporting.
• Describe the audit risk model (inherent, control, and detection risk).
• Differentiate between tests of control and substantive procedures.
• Recognise the use of sampling, documentation, and written representations.

5.1 Why Evidence Matters

Assurance work depends on evidence. Practitioners cannot simply "trust" management's figures — they must collect and evaluate information to reach their own independent conclusion.

Definition:

Evidence is the information used by the practitioner to form a conclusion on the subject matter.

Qualities of good evidence:

• Sufficient – enough evidence to support a conclusion.
• Appropriate – relevant and reliable.

5.2 Types of Evidence

Evidence can come from different sources and be gathered in different forms:

Sources

• External (most reliable, e.g. bank confirmation).
• Internal (less reliable, depends on strength of internal controls).

Forms

• Documentary (invoices, contracts).
• Oral (interviews with staff).
• Physical (inspection of assets).
• Analytical (ratios, trend analysis).

Reliability ranking:

• (more reliable) external > internal (less reliable);
• (most reliable) written > oral (less reliable); and
• (most reliable) original > photocopy (less reliable)

5.3 Assertions

Financial statements are built on management assertions – claims about the recognition, measurement, and disclosure of transactions and balances.

Common assertions:

• Completeness – everything that should be recorded is included.
• Existence – recorded assets and liabilities really exist.
• Accuracy/Valuation – amounts are correct.
• Rights & Obligations – entity owns the assets and owes the liabilities.
• Presentation & Disclosure – items are properly classified and disclosed.

Example:

When testing receivables, the auditor is concerned with existence (do the receivables exist?) and valuation (are they recoverable?).

5.4 The Audit Risk Model

Evidence gathering is guided by risk assessment.

Audit Risk = Inherent Risk × Control Risk × Detection Risk

• Inherent risk – susceptibility of an account to misstatement (e.g. complex valuations).
• Control risk – risk that internal controls fail to prevent/detect misstatements.
• Detection risk – risk that the auditor's procedures fail to detect a misstatement.

Key Point:

If inherent and control risk are high, detection risk must be kept low → more evidence required.

5.5 Tests of Control vs Substantive Procedures

Tests of control

Evaluate whether internal controls are operating effectively.

Example:

Observing stock counts.

Substantive procedures

Test the figures directly, through:

• Analytical procedures (e.g. comparing gross margin % to prior year).
• Tests of detail (e.g. checking invoices for a sample of transactions).

Auditors use a mix depending on risk assessment.

5.6 Sampling

It is rarely possible to test 100% of transactions. Instead, auditors use sampling to gather evidence efficiently.

• Statistical sampling – random, mathematically valid.
• Judgemental sampling – auditor selects items based on risk.

Limitation:

Sampling introduces the possibility that the sample is not representative.

5.7 Documentation and Working Papers

Assurance work must be documented to show evidence gathered, judgements made, and conclusions reached.

Working papers:

• Provide evidence for the audit opinion.
• Show the audit was conducted in line with standards.
• Enable review by senior staff and regulators.

5.8 Written Representations

Management may provide written statements to confirm certain matters (e.g. that all liabilities have been disclosed).

Note:

Written representations are supporting evidence, but never sufficient alone.

Test Your Understanding – Quick Check

1. What two qualities make evidence reliable?

2. Which is more reliable: a bank confirmation or a copy of the client's bank statement? Why?

3. Name two assertions relevant to inventory.

4. How does high inherent risk affect the amount of testing required?

5. Why can written representations never be sufficient on their own?