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Analytical Procedures

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Analytical Procedures

Analytical Procedures

Analytical Procedures is an audit procedure that seeks to provide evidence as to the completeness, accuracy, and validity of the information contained in the accounting records or in the financial statements.

Analytical Procedures consists of the systematic study and comparison of relationships among elements of financial information and the investigation of significant fluctuations and variances from the expected relationship

Examples of Analytical Procedures
Examples of Analytical Procedures

Steps involved in analytical procedures

1. Expectation: This step involves developing an expectation of what the financial information figures should be. This can be agreed through comparisons of financial information or considerations of relationships (ratio analysis).

2. Identification: This step involves the identification of significant variations between the actual data with the expected data.

3. Investigation of unusual variances: Once the variation has been computed, and if significant variations are found, the auditor would consult the management in order to establish explanations for the variations revealed.

4. Performance of alternate procedures: If the auditor or the management does not find the variation reasonable, then they investigate further and perform analytical procedures to satisfy themselves.

When performing an analytical procedure, the auditor compares numbers, ratios or even non-financial information in order to identify unexpected trends or unexpected relationships, which may indicate the existence of errors.

There are many different analytical procedures including the comparisons listed below

1- year on year (e.g. revenue this year compared to revenue last year);

2- to budget or forecast (e.g. actual purchases compared to budgeted purchases);

3- to predictions made by the auditors-proof in total (e.g. auditors calculation of depreciation compared to the client’s calculation);

4. to industry information (e.g. client’s revenue compared to competitor’s revenue).

5. Comparison/analysis of relationships between different elements of the financial statements ( for example gross profit compared to sales)

6. Comparison of financial info with non-financial info ( for e.g. payroll expense matched to the number of employees)

x7.Non-financial information. For Example, sales revenue for a client from the hotel industry may be available data as to room occupancy rates basis.

Analytical procedures at various stages of audit
Analytical procedures at various stages of audit
Analytical Procedures at the
Planning stage
To assist the auditor in the planning stage the
nature, timing, and extent of other
audit procedures. Use at this stage
should add to the firm’s
understanding of the business and
identify the risky areas to which audit
resources should
be targeted.
Analytical Procedures at 
substantive testing stage
at the detailed testing stage –
in most instances analytical
procedures should be used in
conjunction with tests of detail
to achieve a particular audit
the objective in relation to specific
financial statement assertions..
Analytical Procedures at 
the Review stage
At the final review stage the
the auditor must design and perform
analytical procedures that assist
him when forming an overall
conclusion as to whether the
financial statements are consistent with the auditor’s understanding
of the entity and that all of the
audit
objectives with regard to the
financial statements have been
met.

Using Ratios

In the Paper Audit and Assurance exam, you may be asked to compute and interpret the key ratios used in analytical procedures at both the audit planning stage and when collecting audit evidence. Ratios and comparisons can be used to identify where the accounts can be wrong, and where additional auditing effort needs to be spent.

Ratio’s

Ratio Analysis Plays a key Roll to determine the business circumstance, here are few Ratios are given below.

In the examination, you will be asked to calculate and interpret the ratios used in analytical procedures at the audit planning stage and when collecting audit evidence. Ratios and comparisons can be used to identify where the accounts might be wrong or right, and where additional auditing effort should be a need to spent. 

Calculating a ratio is an easy step, divide a number by another number, the calculations are so basic that they can be calculated using a spreadsheet.

The real skill is the interpretation of results and using that information to conduct out a better audit. Saying that a ratio has increased because the top line in the calculation has increased or the bottom line decreased is rather had no point, this is simply translating the calculation into words. the interpretation is another thing. 

Gross Profit Margin: Gross profit/Sales Revenue x 100

Operating profit margin =Operating profit/Sales Revenue x 100

Return on capital employed (ROI) = Operating profit/ Capital employed x 100

Current Ratio= Current Assets/Current Liabilities

Quick ( or asset test) ratios =Current assets minus inventory/ current liabilities

Inventory holding period or Inventory days =Inventory/Cost of sales x 365

Receivable days/ Receivables collection period =Trade receivables/Sales x 365

Trade payable Days/Payables payment period =Trade payables/Cost of sales x 365

Interest cover = profit before interest/ interest

Gearing = Long-term loan finance/ equity finance x 100  The gearing ratio can also be defined 
in other words, particularly by comparing long-term loan finance to total finance.

As the gearing ratio increases so risk that the interest can’t be paid. But it is difficult to define a
‘safe’ level of gearing. an example is , a property company with properties leased to tenants will have a fairly rental income for one year. 

Such a company can probably safely sustain substantial borrowings (though it could be in trouble if interest rates increased significantly). 

A company with volatile streams of income would have to keep its gearing lower as it must ensure that they have the ability to pay interest during the lean times. 

Read More: Analytical Procedures

Audit Risk

Ratio Analysis

What is Audit and Inherent Limitation of Audit

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5 comments

owaihorr 27th October 2019 - 2:55 pm Reply
Sadaf 27th October 2019 - 3:15 pm

Wow it’s really helpful

Reply
izuqibiko 27th October 2019 - 3:39 pm

Unforchunitly Analytical Procedures are very tough for me 🙁

Reply
Puttri 30th October 2019 - 5:32 am

i need Ratios in PDF formate

Reply
Ayub 30th October 2019 - 5:57 am

Analytical procedures are one of the crucial topics, that students struggle with, I recommend you practice Ratios as much as you can to get the grip on this topic

Reply

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