(Audit evidence) In an audit of financial statements, an auditor must judge the

Question

(Audit evidence) In an audit of financial statements, an auditor must judge the validity of the audit evidence obtained. Required a. In the course of an audit, the auditor asks many questions of client officers and employees.

1. Describe the factors that the auditor should consider in evaluating inquiry and oral evidence provided by client officers and employees.

2. Discuss the validity and limitations of inquiry and oral evidence.

b. An audit may include computation of various balance sheet and operating ratios for comparison to prior years and industry averages. Discuss the validity and limitations of ratio analysis in an audit.

c. In connection with his audit of the financial statements of a manufacturing company, an auditor is observing the physical inventory of finished goods, which consists of expensive, highly complex electronic equipment. Discuss the validity and limitations of the audit evidence provided by the procedure. AICPA

Explanation / Answer

1)

An auditor should consider the following factors in evaluating oral evidence provided by client officers and employees in response to his questions:

2)

.           The auditor relies heavily upon the responses of client personnel, but must recognize that this information may lack reliability. The reliance placed upon such evidence will vary based upon the factors discussed above, but heavier weight generally is accorded to evidence generated independently of the client. The auditor should seek additional evidence in instances where he or she judges a client's response to be uninformed or unreliable. In crucial matters, the auditor should ask the client to confirm his representations in writing and also obtain additional evidence from independent sources.

b) The evidence provided by ratio analysis usually is classified as circumstantial. As such, it ranks lower

in reliability and validity than direct evidence such as that provided by confirmation, physical observation, and inspection of original documents. However, ratio analysis has an important supplemental role in the auditor's examination, particularly in larger engagements where a relatively small portion of the direct evidence is reviewed. The use of ratio analysis provides a broad overview and enables the auditor to determine unusual areas where additional inquiry is necessary.

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