Audit Evidence: Analytical Procedures - Lesson 1

In this video, 4.04 – Audit Evidence: Analytical Procedures – Lesson 1, learn how analytical procedures help an auditor plan for and review an audit, and also help the auditor check the results of substantive tests of details for reasonableness. Roger Philipp, CPA, CGMA, gives us a good visual when he states to think of tests of details as ‘the trees’ and analytical procedures as ‘the forest.’

An auditor is required to conduct analytical procedures at the beginning of an audit during the audit planning phase and at the end of the audit as part of an overall review. Analytical procedures are optional but recommended during substantive testing. In this section, Roger defines analytical procedures, gives some examples, and introduces the handy mnemonic CRAFT for remembering how an auditor may ‘craft’ analytical procedures: Client vs. Industry, Related Accounts, Actual vs. Budget, Financial vs. Non-Financial, and This year vs. Prior.

He ends with the following question: Which financial statement, balance sheet or income statement, is better suited for applying analytical procedures, and why? Hint – consider the statement which has more reliably predictable relationships between accounts. See if you get the answer correct as Roger answers this question and more.

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Video Transcript Sneak Peek:

Okay, let's talk about analytical procedures. Now, with analytical procedures, remember over here we said, audit procedures. Two types of details of accounts transactions, balances and disclosures and analytic procedures, that's what we're looking at now.

Now what are analytical procedures? That's part of your ICORRIIA. Analytical procedures are the study of data comparisons and relationships. How information's compare or relate relationships. This is based on the anticipation or expectation theory. This deals with ratios, ratio analysis.

So what we're looking at is how does the number compare? How does it relate based on the expectation? What did you get versus what did you expect to get? That tells us that you know what? This account may have changed by more or less than we expected. So we're going to do this at the beginning of the audit. We're going to do this at the end of the audit. Because at the beginning, we're going to look at all the clients transactions.

So for example, here's let's say X1, here's X2, dollar change, percentage change and we're going to set up maybe parameters. We're going to say, we're looking at all the changes greater than 10,000 dollars and five percent.

Now notice, this is because you may have a change in this account by one million dollars but it's only one percent. Well that's reasonable. You may have another that's a 42 percent change but it's only 27 dollars, who cares? Immaterial. What you’re looking for is a 17,000 dollar change. That's maybe nine percent. You know what? That exceeds both 10,000 and five percent. That's something that maybe we didn't expect.

So when planning the audit you sit down and you go, you know what? In looking at the changes, this is current year, prior year, PY. So here's current year, here's PY which means prior year. You know what? This change is bigger than we expected, then we anticipated. So what we need to do is go back and go, you know? It changed by more than we thought. Is that reasonable? Or could there be a mistake? At the end of the audit you do the same thing.
Because as I mentioned earlier, this is called test of details. This is when you're looking at the detail and you're looking but the problem is you get lost when you can't see the forest for the trees. Because you're in the detail of the trees. Step back and see the whole forest and go, in the details of the trees, this one transaction, let me ask questions, let me confirm, let me observe, let me recalculate, let me re-perform it, let me look at the document, look at the assets, let me do that on this one transaction but when you step back and the whole account balance you go, does this make sense? Does this change seem reasonable? That's comparing. That is relationships. So the comparison, relationships, anticipation, expectation, ratio analysis. That's an important concept, ratio analysis.

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