Himachal Pradesh National Law University

Analytical Procedures and Relevant Auditing

Standards

Course In-charge Submitted By

Mr. Digvijay Singh Katoch Keshav Aggarwal1

1
1120192022
BBA LLB (Hons.) 3rd semester
 Table of Contents

Introduction....................................................................................................................................3

Purposes of Analytical Procedures...............................................................................................3

Timings of Analytical Procedure..................................................................................................5

Analytical Procedures in Planning the Audit..............................................................................6

Relevance of Analytical Procedures.............................................................................................7

Techniques Available for Substantive Analytical Procedures...................................................7

Analytical Procedures Used as Substantive Tests.......................................................................8

Conclusion....................................................................................................................................12

References.....................................................................................................................................13
 ACKNOWLEDGEMENT

I would like to take this opportunity to express my heartfelt gratitude and deep regard to Mr.
Digvijay Singh Katoch for his guidance and valuable feedback and constant support throughout
the duration of project.
His suggestions were of monumental help in the rough work of my project. I would also like to
express my gratitude to Himachal Pradesh National University of Law for giving me the topic
that enriched my knowledge.
I would also like to thank the library staff for constant support. Lastly, I am thankful to my
parents and friends for their constant support and coordination in the completion of research
work
Introduction
Analytical procedures consist of ‘evaluations of financial information through analysis of
plausible relationships among both financial and non-financial data’. They also encompass ‘such
investigation as is necessary of identified fluctuations or relationships that are inconsistent with
other relevant information or that differ from expected values by a significant amount’ (ISA
520). A basic premise underlying the application of analytical procedures is that plausible
relationships among data may reasonably be expected to exist and continue in the absence of
conditions to the contrary.

Analytical procedure include the consideration of comparision of the entities, means of the
analysis of serious ratios, trends including the resulting investigation of fluctuations and
relationships that are incosistent with other relevant information or which deviate from the
anticipated amounts. the 2 imprtant components of tools of research of analytical precedures are
comparative analysis and relation analysis. The utility of analytical procedure lies in proper
investigating the findings of relational and comparative analyses. The auditor may apply
analytical precedures in the slightest degree stages of audit and shuold apply them necessarily
at the look and overall Review stages of audit.
Auditing and Assurance Standards (AAS14) lays down standards on the applying of analytical
procedures during an audit. Purposes of Analytical Procedures

Analytical procedures are used for the subsequent purposes:

(1) To obtain relevant and reliable audit evidence whne using substantive analytical
procedure.
(2) To obtain and perform analytical procedure within the end of the audit that assist the
auditor when preforming an overall conclusion on whether the financial plan are per the
auditor understianding the entity.

Analytical procedures are used throughout the audit process and are conducted for 3 primary
purposes:

Preliminary Analytical Review(required by International Standard Accounting, ISA315)

Preliminary analytical reviews are performed to get an understanding of the business and its
environment. Eg financial performance relative to prior years and relevant industry and
comparison groups

Analytical procedures are used as substantive procedures when the auditor considers that the
employment of analytical procedures is more practical or efficient than tests of details in
reducing the danger of fabric misstatements at the assertion level to an acceptably low level. one
amongst the objectives of ISA 520 is that relevant and reliable audit evidence is obtained when
Analytical procedures are performed as an overall review of the financial statements at the tip of
the audit to assess whether or not they are in keeping with the auditor’s understanding of the
entity. Final analytical procedures aren't conducted to get additional substantive assurance. If
irregularities are found, risk assessment should be performed again to contemplate any additional
audit procedures are necessary.

The primary purpose of substantive analytical procedures is to get assurance, together with other

audit testing (such as tests of controls and substantive tests of details), with reference
to plan assertions for one or more audit areas. Substantive analytical procedures are generally
more applicable to large volumes of transactions that tend to be more predictable over time. the
applying of substantive analytical procedures is predicated on the expectation that relationships
among data exist and continue within the absence of known conditions to the contrary. The
presence of those relationships provides audit evidence on the completeness, accuracy and
occurrence of transactions. because of their nature, substantive analytical procedures can often
provide evidence for multiple assertions, identify audit issues which will not be apparent from
more detailed work, and direct the auditor’s attention to areas requiring further investigation.
Furthermore, the auditor may identify risks or deficiencies in control that had not previously
been identified, which can cause the auditor to re-evaluate his planned audit approach and
require the auditor to obtain more assurance from other substantive testing than originally
planned.

Timings of Analytical Procedure

Analytical Procedure are required within the planning phase and it's often done during the testing
phase. additionally these are required during the completion stage

.Analytical Procedures in Planning the Audit

The purpose of applying analytical procedures in planning the audit is to help in planning the
character, timing, and extent of auditing procedures that may be accustomed obtain evidential
matter for specific account balances or classes of transactions. To accomplish this, the analytical
procedures utilized in planning the audit should target

 (a) Enhancing the auditor's understanding of the client's business and also the transactions and
events that have occurred since the last audit date, and

(b) Identifying areas that will represent specific risks relevant to the audit. Thus, the target of the
procedures is to spot such things because the existence of bizarre transactions and events, and
amounts, ratios and trends that may indicate matters that have budget and audit planning
ramifications.

Analytical procedures employed in planning the audit generally use data aggregated at a high
level. Furthermore, the sophistication, extent and timing of the procedures, which
are supported the auditor's judgment, may vary widely reckoning on the dimensions and
complexity of the client. for a few entities, the procedures may include reviewing changes in
account balances from the before the present year using the final ledger or the auditor's
preliminary or unadjusted working balance. In contrast, for other entities, the procedures might
involve an in depth analysis of quarterly financial statements. In both cases, the analytical
procedures, combined with the auditor's knowledge of the business, function a basis for
extra inquiries and effective planning.

Although analytical procedures employed in planning the audit often use only financial data,
sometimes relevant nonfinancial information is taken into account likewise. as an example,
number of employees, square footage of selling space, volume of products produced, and similar
information may contribute to accomplishing the aim of the procedures.

Relevance of Analytical Procedures

The reliablity of data is influenced by its source and nature and is dependent on the
circumstances under which it is obain. Accordingly the following are relevant when determing
whether the data is reliable or not for the purpose of designing substantive analytical procedures.

(a) Source of the information available : iformation may be more reliable when collected from
primary source.

(b) Comparability of the information available

(c) Nature and reference of the information availbale

(d) Control over the preparation of the information that are designed to ensure its accuracy and
validity.

The auditor may consider testing the operating efficiency and effictivness of control over the
entities preparation of information used by the auditor in preforming analytical procedures.
When such control is effective the auditor has greater confidence is reliabilty of analytical
procedures.

Use of substantive analytical procedures

One of the objectives of ISA 520 is that relevant and reliable audit evidence is obtained when
using substantive analytical procedures. the first purpose of substantive analytical procedures
is to get assurance, together with other audit testing (such as tests of controls and substantive
tests of details), with regard to finances assertions for one or more audit areas. Substantive
analytical procedures are generally more applicable to large volumes of transactions that tend to
be more predictable over time.

The application of substantive analytical procedures relies on the expectation that relationships

among data exist and continue within the absence of known conditions to the contrary. The
presence of those relationships provides audit evidence on the completeness, accuracy and
occurrence of transactions. because of their nature, substantive analytical procedures can often
provide evidence for multiple assertions, identify audit issues which will not be apparent from
more detailed work, and direct the auditor’s attention to areas requiring further investigation.
Furthermore, the auditor may identify risks or deficiencies in control that had not previously
been identified, which can cause the auditor to re-evaluate his planned audit approach and
need the auditor to get more assurance from other substantive testing than originally planned.
To derive the foremost enjoy substantive analytical procedures, the auditor should perform
substantive analytical procedures before other substantive tests because results of substantive
analytical procedures often impact the character and extent of detailed testing. Substantive
analytical procedures might direct attention to areas of increased risk, and therefore the assurance
obtained from effective substantive analytical procedures will reduce the number of assurance
needed from other tests.

There are four elements that comprise distinct steps that are inherent within the process to using
substantial analytical procedures:

Step 1: Develop an independent expectation

The development of an appropriately precise, objective expectation is that the most vital step in

effectively using substantive analytical procedures. An expectation may be a prediction of a
recorded amount or ratio. The prediction may be a selected number, a percentage, a direction or
an approximation, looking on the required precision.
The auditor should have an independent expectation whenever s/he uses substantive analytical
procedures (ISA 520). The auditor develops expectations by identifying plausible relationships
(eg between store square footage and retail sales, market trends and client revenues) that are
reasonably expected to exist supported his knowledge of the business, industry, trends, or other
accounts.

Step 2: Define a big difference (or threshold)

While designing and performing substantive analytical procedures the auditor should
consider the quantity of difference from the expectation that may be accepted without further
investigation (ISA 520). the utmost acceptable difference is usually called the ‘threshold’.
Thresholds could also be defined either as numerical values or as percentages of the things being
tested. Establishing an appropriate threshold is especially critical to the effective use of
substantive analytical procedures. to forestall bias in judgment, the auditor should determine the
edge while planning the substantive analytical procedures, ie before Step 3, during which the
difference between the expectation and therefore the recorded amount are computed.

The threshold is that the acceptable amount of potential misstatement and thus mustn't exceed

planning materiality and must be sufficiently small to enable the auditor to
spot misstatements that would be material either individually or when aggregated with
misstatements in other disaggregated portions of the account balance or in other account
balances.

Step 3: Compute difference

The third step is that the comparison of the mean value with the recorded amounts and also
the identification of great differences, if any. this could be simply a mechanical calculation.
It is important to notice that the computation of differences should be done after the
consideration of an expectation and threshold. In applying substantive analytical
procedures, it's not appropriate to first compute differences from prior-period balances and so let
the results influence the ‘expected’ difference and also the acceptable threshold.

Step 4: Investigate significant differences and draw conclusions

The fourth step is that the investigation of serious differences and formation of conclusions (ISA
520). Differences indicate an increased likelihood of misstatements; the greater the degree of
precision, the greater the likelihood that the difference may be a misstatement.
Explanations should be explore for the complete amount of the difference, not just the part that
exceeds the edge. there's an opportunity that the unexplained difference may indicate an
increased risk of fabric misstatement. The auditor should consider whether the differences were
caused by factors previously overlooked when developing the expectation in Step
1, like unexpected changes within the business or changes in accounting treatments. If the
difference is caused by factors previously overlooked, it's important to verify the new data, to
point out what impact this may wear the first expectations as if this data had been
considered within the first place, and to grasp any accounting or auditing ramifications of the
new data.

Techniques Available for Substantive Analytical Procedures

There are several types of analytical procedures commonly used as substantive procedures and
will influence the precision of the expectation. The auditor chooses among these procedures
based on his objectives for the procedures. Substantive analytical procedures takes one of the
following forms

Trend analysis the analysis of changes in an account over time.

Tools : Time Series, Least Square Method, moving average method, R2 Method etc.

Ratio analysis – the comparison, across time or to a benchmark, of relationships between

financial statement accounts and between an account and non-financial data.

Reasonableness testing – the analysis of accounts, or changes in accounts between accounting

periods, that involves the development of a model to form an expectation based on financial data,
non - financial data, or both.

Each of the types uses a different method to form an expectation. They are ranked from lowest to
highest in order of their inherent precision. Scanning analytics are different from the other types
of analytical procedures in that scanning analytics search within accounts or other entity data to
identify anomalous individual items, while the other types use aggregated financial information.
If the auditor needs a high level of assurance from a substantive analytical procedure, s/he should
develop a relatively precise expectation by selecting an appropriate analytical procedure (eg a
reasonableness test instead of a simple trend or ‘flux’ analysis). Thus, determining which type of
substantive analytical procedure to use is a matter of professional judgment.

Analytical Procedures Used as Substantive Tests

The auditor's reliance on substantive tests to attain an audit objective associated with a
specific assertion is also derived from tests of details, from analytical procedures, or from a
mix of both. the choice about which procedure or procedures to use to realize a specific audit
objective is predicated on the auditor's judgment on the expected effectiveness and efficiency of
the available procedures.

The auditor considers the extent of assurance, if any, he wants from substantive testing for a
specific audit objective and decides, among other things, which procedure, or combination of
procedures, can provide that level of assurance. for a few assertions, analytical procedures are
effective in providing the suitable level of assurance. For other assertions, however, analytical
procedures might not be as effective or efficient as tests of details in providing the specified level
of assurance. The expected effectiveness and efficiency of an analytical procedure in identifying
potential misstatements depends on, among other things,

(a) the nature of the assertion

Analytical procedures could also be effective and efficient tests for assertions during

which potential misstatements wouldn't be apparent from an examination of the detailed
evidence or within which detailed evidence isn't readily available. for instance, comparisons of
aggregate salaries paid with the quantity of personnel may indicate unauthorized payments that
will not be apparent from testing individual transactions. Differences from expected
relationships can also indicate potential omissions when independent evidence that a
private transaction should are recorded might not be readily available.

(b) the plausibility and predictability of the connection

It is important for the auditor to know the explanations that make relationships plausible because
data sometimes appear to be related after they aren't, which may lead the auditor to erroneous
conclusions. additionally, the presence of an unexpected relationship can provide important
evidence when appropriately scrutinized. As higher levels of assurance are desired from
analytical procedures, more predictable relationships are required to develop the expectation.
Relationships in a very stable environment are usually more predictable than relationships in a
very dynamic or unstable environment. Relationships involving profit-and-loss

Statement accounts tend to be more predictable than relationships involving only record accounts

since earnings report accounts represent transactions over a period of your time,
whereas record accounts represent amounts as of a degree in time. Relationships involving
transactions subject to management discretion are sometimes less predictable. as an example,
management may elect to incur maintenance expense instead of replace plant and equipment,
or they'll delay advertising expenditures.

(c) The provision and reliability of the information wont to develop the expectation,

Data may or might not be readily available to develop expectations for a few assertions. as an
example, to check the completeness assertion, expected sales for a few entities can be developed
from production statistics or square feet of selling space. For other entities, data relevant to the
assertion of completeness of sales might not be readily available, and it's going to be simpler or
efficient to use the small print of shipping records to check that assertion.

The auditor obtains assurance from analytical procedures based upon the consistency of the
recorded amounts with expectations developed from data derived from other sources. The
reliability of the info wont to develop the expectations should be appropriate for the
specified level of assurance from the analytical procedure. The auditor should assess the
reliability of the info by considering the source of the information and also the conditions under
which it absolutely was gathered, likewise as other knowledge the auditor may have about the
information. the subsequent factors influence the auditor's consideration of the reliability of
knowledge for purposes of achieving audit objectives:

Whether the info was obtained from independent sources outside the entity or from sources
within the entity?

Whether sources within the entity were independent of these who are accountable for the
number being audited?

Whether the info was developed under a reliable system with adequate controls?

Whether the info was subjected to audit testing within the current or prior year?

Whether the expectations were developed using data from a spread of sources?

(d) The precision of the expectation,

The expectation should be precise enough to supply the specified level of assurance that

differences which will be potential material misstatements, individually or when aggregated with
other misstatements, would be identified for the auditor to research. As expectations become
more precise, the range of expected differences becomes narrower and, accordingly, the
likelihood increases that significant differences from the expectations are thanks
to misstatements. The precision of the expectation depends on, among other things, the auditor's
identification and consideration of things that significantly affect the quantity being audited and
therefore the level of detail of knowledge wont to develop the expectation.

Many factors can influence financial relationships. as an example, sales are tormented by prices,
volume and products mix. Each of those, in turn, could also be laid low with variety of things,
and offsetting factors can obscure misstatements. simpler identification of things that
significantly affect the link is usually needed because the desired level of assurance from
analytical procedures increases.

Expectations developed at a close level generally have a greater chance of detecting

misstatement of a given amount than do broad comparisons. Monthly amounts will generally
be more practical than annual amounts and comparisons by location or line of business
usually are simpler than company-wide comparisons. the extent of detail that's appropriate are
going to be influenced by the character of the client, its size and its complexity. Generally, the
danger that material misstatement may be obscured by offsetting factors increases as a client's
operations become more complex and more diversified. Disaggregation helps reduce this risk.

Conclusion

Analytical procedures are an important part of the audit process and consist of evaluations of
financial information made by a study of plausible relationships among both financial and
nonfinancial data. Analytical procedures range from simple comparisons to the use of complex
models involving many relationships and elements of data. A basic premise underlying the
application of analytical procedures is that plausible relationships among data may reasonably be
expected to exist and continue in the absence of known conditions to the contrary. Particular
conditions that can cause variations in these relationships include, for example, specific unusual
transactions or events, accounting changes, business changes, random fluctuations, or
misstatements. Understanding financial relationships is essential in planning and evaluating the
results of analytical procedures, and generally requires knowledge of the client and the industry
or industries in which the client operates. An understanding of the purposes of analytical
procedures and the limitations of those procedures is also important. Accordingly, the
identification of the relationships and types of data used, as well as conclusions reached when
recorded amounts are compared to expectations, requires judgment by the auditor.

References

 https://www.accaglobal.com/middle-east/en/student/exam-support-
resources/professional-exams-study-resources/p7/technical-articles/analytical-procedures.
 https://www.cpajournal.com/2019/10/29/the-essence-of-effective-analytical-procedures/
 https://www.google.com/search?rlz=1C1CHBD_enIN925IN925&sxsrf=A
 https://www.ifac.org/system/files/downloads/ISA_520_standalone_2009_Handbook.pdf