VERIFICATION PRINCIPLES
Business entities keep records of their business activities on daily basis. The
business of the clients may arise from buying, producing, and selling goods,
services, and paying and collecting cash in connection with those activities.
Recording of the transactions in the books of the clients are reflected in the
revenue, expense, asset and liability accounts.
In the course of preparation of financial statements, the directors make certain
financial statements assertions. The assertions constitute representations of
the directors that are embodied in the financial statements. The directors, by
approving the financial statements confirm the representations made by them.
The following matters constitute representations or assertions usually made
by the directors in approving financial statements:
(a) Existence: an asset or a liability exists at a given date;
(b) Rights and Obligations: an asset or a liability pertains to the entity
at a given date;
(c) Occurrence: a transaction or event took place which pertains to the
entity during the relevant period;
(d) Completeness: there are no unrecorded assets, liabilities, transactions
or events, or undisclosed items;
(e) Valuation: an asset or liability is recorded at an appropriate carrying
value;
(f) Measurement: a transaction or event is recorded at the proper amount
and revenue or expense is allocated to the proper period; and
(g) Presentation and disclosure: an item is disclosed, classified and
described in accordance with the applicable reporting framework (for
example relevant legislation and applicable accounting standards).
The above therefore are the fundamentals of all verification exercises.
The auditor must obtain audit evidence to support each financial statement
assertion. The audit evidence presented in support of one assertion (for example,
existence of stock) does not compensate for failure to obtain audit evidence
regarding another (for example, its valuation). Tests may, however, provide
audit evidence about more than one assertion (for example, testing subsequent
receipts from debtors may provide some audit evidence regarding both their
existence and valuation).
In conducting substantive tests, the auditor must consider the nature, timing
and extent of substantive procedures. These may depend, amongst other factors,
on the following matters:
(a) The auditors’ assessments of the control environment and accounting
systems generally;
(b) The inherent and control risks relating to each assertion;
(c) Evidence obtained from audit work performed during the preparation
of the financial statements; and
(d) Where tests of control provide satisfactory evidence as to the effectiveness
of accounting and internal control systems, the extent of relevant
substantive procedures may be reduced, but not entirely eliminated.
Auditors normally obtain audit evidence by:
(a) Inspection;
(b) Observation;
(c) Enquiry and confirmation;
(d) Computation; and
(e) Analytical procedures.
The choice of one or a combination of the procedures which the auditors may
adopt is dependent, in part, on the type of audit, the time the audit is conducted
and the form in which the accounting records are maintained.
Inspection
Inspection provides reliable audit evidence about the existence of the tangibleassets inspected but not necessarily as to the ownership or value of such assets.
It involves examining records, documents or tangible assets and provides audit
evidence of varying degrees of reliability depending on their nature and source
and the effectiveness of internal controls over their processing.
Inspection also provides three major categories of documentary audit evidence,
listed in ascending degree of reliability, viz:
(a) Evidence created and held by the entity;
(b) Evidence created by third parties and held by the entity; and
(c) Evidence created and provided to auditors by third parties.
Observation
The auditor, by observation, looks at a procedure being performed by others,for example the auditors observe the counting of stock by the entity’s staff or
the performance of internal control procedures as part of the conduct of an
audit.
Enquiry and Confirmation
Enquiry involves seeking information within and outside the entity. Enquirymay be formal or informal. Responses to enquiries obtained from third parties
may confirm or disprove information previously made available to the auditors.
Confirmation involves obtaining response to an enquiry to corroborate
information previously made available to the auditors in the course of the audit.
Examples of direct confirmation are as follows:
(a) Confirmation of debts by communication with debtors;
(b) Confirmation of legal cases by communication with the entity’s solicitors;
and
(c) Confirmation of bank balances by communication with the entity’s
bankers.
Computation
The auditor uses computation to check the arithmetical accuracy of sourcedocuments and accounting records. Computation also involves re-performing
independent calculations.
Analytical Procedures
Analytical procedures consist of the analysis of relationships between:(a) Items of financial data;
(b) Items of financial and non-financial data, deriving from the same period;
or
(c) Comparable financial information deriving from different periods or
different entities.
Analytical procedures are used in identifying consistencies and predicted
patterns or significant fluctuations and unexpected relationships, and the results
of investigations thereof.
Verification of assets is essential in auditing. Verification is a form of substantive
test. The auditor has a duty to verify the assets and liabilities which appear on
the balance sheet. The auditor also has a duty to verify that no other assets and
liabilities which ought to appear on the balance sheet have been omitted from
the financial statements.
At this juncture, it is important to know that an auditor must have a good
understanding of his or her client’s business. He should document the client’s
business and conduct tests of control and substantives tests on class of
transactions and balances usually generated by the entity. All items considered
to be material must be covered in the substantive tests.
Auditors are not necessarily suggesting that the risk of material misstatement
is particularly at the maximum, in the financial statements presented for audit.
Before performing substantive tests on each asset, the auditor would have
gathered sufficient information or updated the information previously at his
disposal about the client to make preliminary materiality judgement and to
assess inherent and control risk.
Verifications of the following accounts are considered below as part of
substantive tests in the course of an audit:
(a) Current assets;
(b) Fixed assets;
(c) Liabilities;
(d) Goodwill, patents, trademarks, copyright and franchise accounts;
(e) Reserve and equity;
(f) Income and expenditure;
(g) Revenue and expenses;
(h) Sales and Purchases;
(i) Wages and Salaries; and
(j) Other income and expenditure account items.
Verification may be in the form of:
(a) Confirmation of authorisation;
(b) Checking existence;
(c) Confirmation of costs or value;
(d) Confirmation of title;
(e) Physical inspection;
(f) Ensuring completeness; and
(g) Presentation and disclosure.
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