AUDITING CHAPTER 9

Audit Sampling By David N. Ricchiute

TOPICS
Use of sampling in audit engagements Role of sampling, nonsampling risk
 

Risk of assessing control risk too high, too low Risks of incorrect rejection, acceptance

Distinction between statistical, nonstatistical sampling Audit sampling for tests of controls and substantive tests of details
 

Attribute estimation, sequential sampling Probability-proportional-to-size (PPS)

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SAMPLING:
Definitions
Sampling: examining less than 100% of items in a population Population: all items within a class of transactions Sampling plan: procedures to test a sample Attributes sampling: tests rate of deviation from a prescribed control procedure Variables sampling: tests whether recorded account balances are fairly stated

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AUDIT RISK
Risk that auditor may unknowingly fail to modify opinion on materially misstated financial statements 2 parts


Risk that errors will occur: uncontrollable

 Inherent risk & control risk

Risk that material errors will not be detected: controllable

 Detection risk

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UNCERTAINTIES
Sampling risk


Risk that sample may contain disproportionately more/less error than exists in population Aspects of audit risk not attributable to sampling such as human error

Nonsampling risk


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CONTROL RISK ASSESSMENT: Too High

Inefficient Assessing control risk at maximum when it should be lower Concluding control not effective when it is

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CONTROL RISK ASSESSMENT: Too Low

Ineffective Lowering control risk when should be set at maximum Concluding control is effective when it isn t

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STATISTICAL SAMPLING
Apply the laws of probability to
  

Design efficient sample Measure sufficiency of sample Evaluate sample results

Measures sampling risk quantitatively

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NONSTATISTICAL SAMPLING
Relies exclusively on judgment to
 

Determine sample size Evaluate sample results

Cannot measure sampling risk quantitatively

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(NON)STATISTICAL SAMPLING CHOICE

Choice based on relative costs & benefits Independent of audit procedures

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ATTRIBUTES & DEVIATIONS

Attribute


A characteristic of control Absence of the attribute

Deviation


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ATTRIBUTE ESTIMATION SAMPLING

Used to test controls that leave an audit trail 1 Determine objectives, attributes, deviation conditions 2 Define population 3 Define sample size 4 Perform sampling plan 5 Evaluate sample results
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ATTRIBUTE ESTIMATION SAMPLING: Objectives

Whether controls for class of transactions sufficiently effective to lower control risk below maximum
 

Trail of observable & documented evidence Does not rely primarily on segregation of duties

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ATTRIBUTE ESTIMATION SAMPLING: Sample Size

Sample size components


Acceptable risk of assessing control risk too low

 Inverse relationship with sample size

Tolerable rate of deviation

 Maximum population rate of deviation from control

Expected population deviation rate

 Estimated from prior year or pilot sample

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SAMPLE SELECTION METHODS

A Random-number sampling B Systematic sampling C Block sampling D Haphazard sampling E Stratified

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SAMPLE SELECTION METHODS: Random Number

Uses computer-generated numbers to select sampling units Match number to prenumbered documents Appropriate for both statistical & nonstatistical sampling

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SAMPLE SELECTION METHODS: Systematic Sampling

Selecting every nth item from population of sequentially ordered items Useful when identification numbers lacking Appropriate for both statistical & nonstatistical sampling

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SAMPLE SELECTION METHODS: Block Sampling

A group of items arranged contiguously within a larger grouping Inefficient & not generalizable Should not be used for statistical or nonstatistical sampling without care in controlling sampling risk

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SAMPLE SELECTION METHODS: Haphazard Sampling

Sampling units selected without special reason or conscious bias Inappropriate for statistical sampling Useful for nonstatistical sampling

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SAMPLE SELECTION METHODS: Stratified Sampling

Subdivide population into homogeneous strata Select separate sample for each strata by one of prior methods

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OTHER TECHNIQUES:
Sequential Sampling

Stop-or-go
 

Performed in stages Auditor decides to stop or continue sampling after each stage

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OTHER TECHNIQUES:
Nonstatistical Sampling
Used when costs outweigh benefits of statistical sampling Auditor judgment guided by
  

Experience Prior knowledge Current information

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SUBSTANTIVE SAMPLING RISK: 2 Sources

Risk of incorrect rejection


Risk that audit sample suggests account balance is materially misstated when it is fairly stated Risk that sample suggests account balance is fairly stated when it is materially misstated
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Risk of incorrect acceptance



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VARIABLES SAMPLING PLAN

Determine objectives of test Define population Choose sampling technique Determine sample size Determine method of sample selection Perform sampling plan Evaluate sample results
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OBJECTIVES OF TEST
To estimate account balance that is not recorded To test reasonableness of recorded account balance

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DEFINING POPULATION
Audit population


All items constituting an account balance or class of transactions defined by auditor s characteristic of interest Any individual elements of a population

Sampling unit


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AUDIT SAMPLING
Sampling used only for those accounts where it is appropriate


When large number transactions within one account Probability proportional to size (PPS) Nonstatistical sampling Classical variables sampling (appendix)
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Techniques


 

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SAMPLING DECISIONS
Choice between statistical & nonstatistical sampling based on
  

Costs Effectiveness Need for quantitative estimate of sampling risk

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PROBABILITY-PROPORTIONALTO-SIZE (PPS)
Derived from attributes sampling theory Appropriate when 1 or a few errors expected Characteristics
 

Automatically stratifies an audit population Appropriate for testing for overstatement

 Useful for testing assets & revenues

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PPS
An Example
Define population for accounts receivable


All customer debit balances testing overstatement or All customer balances, including 0 & negative
 Requires special consideration

Dollar is sample unit

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PPS SAMPLE SIZE ELEMENTS

Determine


Reliability factor for overstatement errors based on

 Expected number overstatement errors  Risk of incorrect acceptance

 

Tolerable (acceptable) error Anticipated error & expansion factor

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PPS SAMPLE SIZE MODEL

RF x B TE (AE x EF) where RF reliability factor (from table) B book value (from client) TE tolerable error (auditor judgment) AE anticipated error (auditor judgment) EF expansion factor (from table)
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n=

PPS SAMPLE SELECTION

Used for statistical sampling methods
 

Random number Systematic sampling

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EVALUATING RESULTS: PPS Decision Rule

If the upper error limit is less than or equal to the tolerable error, the account is fairly presented

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NONSTATISTICAL SAMPLING
Used when No apparent need to quantify sampling risk Cost of statistical sampling exceeds benefits Cost to select sampling units exceeds benefits
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SAMPLE SIZE IN NONSTATISTICAL SAMPLING

Requires


Degree audit assurance

 Substantial, moderate, little

 

Assurance factor Estimated tolerable error

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EVALUATING SAMPLE RESULTS

When likely error is estimated, auditor has 4 choices
  

Accept client s book value Propose audit adjustment Perform additional substantives tests Request client to revalue entire population
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