Why do auditors rely on substantive tests in auditing shareholders equity?
Substantive procedures are the method or audit tests designed by an auditor to evaluate the financial statements of the company, which require an auditor to create conclusive evidence for verifying the completeness, accuracy, existence, occurrence, measurement, and valuation (audit assertions) of the financial records of the business. Show
Table of contentsExplanationThe intention behind performing the Substantive procedures by an auditor is to check that there is no material misstatement in the business’s financial records, i.e., they are complete, accurate, valid, and all the material information is disclosed. The method followed includes testing the account balances, examining the general entry, and other adjustments made while preparing the company’s financial statementCompany's Financial StatementFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more. It also includes making inquiries about suspicious transactions. Some examples can be external party confirmation like confirming the company’s bank balance from the Bank directly, performing a physical inventory count, confirming Accounts payable is the amount due by a business to its suppliers or vendors for the purchase of products or services. It is categorized as current liabilities on the balance sheet and must be satisfied within an accounting period.read moreaccounts payableAccounts PayableAccounts payable is the amount due by a business to its suppliers or vendors for the purchase of products or services. It is categorized as current liabilities on the balance sheet and must be satisfied within an accounting period.read more from creditors of the business, etc. If you want to learn more about Auditing, you may consider taking courses offered by Coursera –
Example of Substantive ProcedureFor example, there is a company named BSR Trading, whose financial statements of the company show the following balances: You are free to use this image on your website, templates, etc., Please provide us with an attribution linkHow to Provide Attribution?Article Link to be Hyperlinked
Now the substantive procedures that can be followed on the above balances are:
TypesThere are two types which are as follows: You are free to use this image on your website, templates, etc., Please provide us with an attribution linkHow to Provide Attribution?Article Link to be Hyperlinked #1 – Test of DetailsTest of details refers to collecting evidence that helps evaluate the correctness of the account balances, disclosures, and other accounting transactions made by the business entity in their financial statements. #2 – Substantive Analytical ProceduresAnalytical procedures are an important method performed while conducting the process of auditing. In the analytical procedures, the evaluations are made on the financial statements by studying the plausible relationships between financial and non-financial data. For example, computation of ratios, comparing past year balances with the current year, etc. Substantive Procedure for Account TransactionsIt followed to check the purchases of the raw material of the business:
The substantive procedure followed to check the Related party transactionRelated Party TransactionRelated party transaction is an arrangement between two related parties for the transfer of resources, services or obligations, irrespective of whether a price is charged or can affect the statement of profit or loss and the financial position of an entity.read more of the business:
ImportanceThe substantive procedure is important to check the accuracy & completeness of a business transactionBusiness TransactionA business transaction is the exchange of goods or services for cash with third parties (such as customers, vendors, etc.). The goods involved have monetary and tangible economic value, which may be recorded and presented in the company's financial statements.read more, measurement & valuation of an asset or liability of that business, and check that all material items are disclosed properly, etc. These procedures are important while conducting the audit to comment upon the truth and fairness of the company’s financial statements. It assures the following assertions to the auditorAuditorAn auditor is a professional appointed by an enterprise for an independent analysis of their accounting records and financial statements. An auditor issues a report about the accuracy and reliability of financial statements based on the country's local operating laws.read more:
ConclusionSubstantive audit procedures are tests designed to collect evidence about the business transaction. The occurrences, validity, and existence of the transaction can be verified, and the accuracy of their accounting treatment can be checked. Recommended ArticlesThis has been a guide to what is a substantive audit procedure. Here we discuss examples of such audit tests on accounting transactions and their types. You may learn more about finance from the following articles – Why are substantive procedures An important part of auditing?Substantive procedures in auditing are important because they prioritize thorough documentation of finances. As an auditor, it's essential for you to have evidence of every monetary transaction to draw conclusions about a financial status.
What is the advantage of a substantive test sample?Substantive testing allows the auditor to carefully review various organisational documents and controls, making sure that financial records are as accurate as possible before publishing an official report.
What are the benefits of substantive analytical procedures?Due to their nature, substantive analytical procedures can often provide evidence for multiple assertions, identify audit issues that may not be apparent from more detailed work, and direct the auditor's attention to areas requiring further investigation.
Under which circumstance would an auditor be most likely to perform substantive tests?Explanation: An auditor would likely perform substantive tests before the balance sheet date, which is considered the interim period, when the account activity is low and immaterial. If the risk of material misstatement is low the auditor will likely perform interim testing.
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