The results of this study are important for audit firms to consider when evaluating documentation protocol.  The results suggest that the preparation of detailed workpapers resulted in better pattern recognition and also a greater identification of exceptions.  Both of these would increase audit effectiveness.  Even though detailed workpapers are associated with greater detection rates and pattern recognition, the auditors did not perform as well on memory tests.  Therefore, audit teams may enhance the memory of auditors by encouraging team members to examine evidence a greater number of times.  The results also indicated that self-review of documentation could also increase pattern recognition, which would have a beneficial impact on audit effectiveness. 

Payne, E. A. and R. J. Ramsay. 2008. Audit Documentation Methods: A Path Model of Cognitive Processing, Memory, and Performance. Auditing: A Journal of Practice and Theory 27 (1): 151-168

In recent years, public accounting firms have increased the use of detailed audit workpapers and are using fewer summary memos.  Summary memos were previously popular because they often provided increased efficiency (by a reduction of time to complete documentation) and reduced litigation risk.  However, the adoption of PCAOB’s Auditing Standard #3 increased the amount of documentation of auditing procedures that should be maintained by firms.  A contrast of the two types of memos is provided below: 

• Summary memos: include an explanation of the overall procedures performed (i.e. sample selection and selection criteria) and a description of exceptions of the audit tests
• Detailed workpapers: include the specifics of all items examined (which can include names, dates, amounts, etc.), procedures performed on each item, and the results associated with each of those items. 

The authors consider whether the type of documentation can impact the efficiency and effectiveness of evidence gathering procedures.  Specifically, the authors consider if the type of audit documentation affects cognitive processing (i.e. how information is processed within an individual’s brain) and if these differences in cognitive processing are associated with better memory and performance measures.  The performance measures can include recognition of patterns that might suggest fraud and the identification of internal controls exceptions.

The research evidence is collected prior to 2005, before AS No. 3 was issued.  The authors use a group of staff and senior auditors from three of the (then) Big 5 accounting firms.  The computerized experiment was conducted at firm training sessions. Each participant completed a case study which involved testing internal controls for write-offs of accounts receivable. After reading the client background information, the subjects were presented a sample of A/R write-offs and related evidence which allowed them to  determine if the write-offs were approved in accordance with the client’s policy.  Participants were asked to complete their documentation using either a summary memo, or to prepare detailed workpapers.  The case materials included errors (i.e., a posting error and an authorization error).  Additionally, the materials were constructed to include a pattern suggestive of fraud (i.e., 5 of the 20 write-offs were just under the client’s threshold for authorization).

• The two methods of documentation (detailed workpapers versus summary memos) both enhance the cognitive process, but they have different effects on memory and performance.
• The preparation of summary memos requires auditors to view each piece of audit evidence a greater numbers of times; viewing evidence more results in better pattern recognition (i.e. recognizing a combination of factors that together suggest fraud) and increased memory.
• The use of detailed workpapers increases the amount of time auditors spend reviewing  each of the evidence items; the increased preparation time improves auditors’ ability to identify internal control exceptions and to detect an underlying pattern in the information.
• While both documentation methods enhance the identification of patterns in the data, the use of detailed workpapers also improves the ability to identify exceptions in internal controls while the use of summary memos enhances memory/recall.
• Thorough self-review by a preparer of detailed workpapers further enhanced the ability to detect patterns.
• Preparation of detailed workpapers was more efficient.

The findings of this study have important implications for practice. Given the concern from the PCAOB regarding auditors’ lack of professional skepticism, this paper finds a mechanism to increase and improve the level of professional skepticism. In addition, the technique the author finds (providing high-level construal instructions) to auditors is “simple to use, inexpensive, and can easily be tailored for a firm’s specific needs or language”. 

Rasso, J.T. 2015. Construal instructions and professional skepticism in evaluating complex estimates. Accounting, Organizations and Society 46: 44-55.

The purpose of this study is to examine whether instructing auditors to create summaries of their audit findings during evidence evaluation in a broad/abstract manner (creating high-level construals) increases professional skepticism. Theoretical research suggests that using these high-level construals (or interpretations) helps individuals to process and understand numerous pieces information. The author suggests that this method could help auditors to ‘see the big picture’, which could help identify patterns in the evidence or possible material misstatements. Then, auditors may be more willing to gather and evaluate additional evidence to test for these potential problems.

Data for this paper was collected prior to April 2015 by using a computerized experiment. Auditors were used as participants in the study, and they averaged 5.4 years of audit experience (ranging from staff auditor to partner). In addition, ninety percent of the auditors had audited fair value estimates in the past.

Auditors that were given documentation instructions to create high-level construals were more likely to exert professional skepticism compared to auditors given low-level construals (identifying specifically how an estimate could be fairly stated or misstated) or auditors given no instructions. Specifically, they spent more time collecting and evaluating audit evidence, collected more evidence, and rated the risk of the fair value estimate higher. These findings suggest that auditors using the high-level construal instructions process the information from their findings better and recognize a need to gather more evidence when given an incomplete amount of evidence. In addition, when evidence suggests that the fair value is overstated, auditors given the high-level construal instructions are more likely to realize the high risk.

http://www.auditingresearchsummaries.org

The results of this study are important for audit firms to consider when designing their audit review process.  Though the initial reason for using interactive review was to increase efficiency and enhance training, the results of this study show that the use of interactive review can potentially increase audit effectiveness.  The anticipation of an interactive review enhanced auditors’ efforts toward more cognitively demanding, conclusion-oriented audit procedures.  At the same time, the type of review anticipated had no effect on the performance of the mechanical steps in the audit program (both groups performed well in the mechanical, documentation-oriented audit steps).

Payne, E. A., R. J. Ramsay, and E. M. Bamber. 2010.  The Effect of Alternative Types of Review on Auditors’ Procedures and Performance.  Auditing: A Journal of Practice & Theory 29 (1): 207-220.

Audit review is a primary means of audit quality control and auditor training.  Given the significant amount of total audit hours allocated to review, audit firms are constantly examining ways to increase both the effectiveness and the efficiency of review.  Traditionally, reviewers examine documentation, prepare written review comments, and then either meet with the preparer face-to-face or provide the written notes to the preparer to be addressed.  An alternative approach that has gained in popularity is a real-time interactive review.  In this type of review, reviewers do not prepare written review notes prior to the review.  Instead, the reviewer sits down with the preparer and the review is done face-to-face with the file reviewer.  The interaction generates the written comments for the preparer to follow-up rather than written comments being prepared in advance.  Given the unique features of an interactive review, the purpose of this study is to examine how preparers’ anticipation of this type of review (as compared to a review with written notes) affects their performance of audit procedures and, in turn, audit effectiveness.  Specifically, the study examines the following:

• Whether auditors anticipating an interactive review will more thoroughly perform the more cognitively demanding, conclusion-oriented steps of an audit program than auditors anticipating receipt of written review notes.
• Whether auditors anticipating an interactive review will perform the more mechanical, documentation-oriented steps of the audit program differently than auditors anticipating receipt of written reviewnotes.
• If performance on the conclusion-oriented steps of an audit program is positively related to conceptual error identification.
• If performance on the documentation-oriented steps of an audit program is positively related to mechanical error detection.

The research evidence is collected prior to November 2008.  The authors use a group of staff- and senior-level auditors from three international accounting firms to complete a simulated audit task involving completing a test of internal controls for write-offs of accounts receivable.  Half of the participants were told they would receive written review notes and half of the participants were told they would be asked to meet face-to-face with a manager in an interview format to discuss/review the participant’s work. 
All participants then performed mechanical, documentation-oriented procedures, conceptual, conclusion-oriented procedures, prepared a summary memo, and performed test of controls.  Completion of the procedures would allow them to identify two misstatements in the audit support and one fraud red flag.

• Auditors anticipating an interactive review performed a more thorough examination of the audit evidence in the conceptual, conclusion-oriented audit steps than auditors anticipating a written review notes.
• Auditors anticipating both types of reviews performed similarly in the mechanical, documentation-oriented audit steps.
• A more thorough review of the audit evidence in the demanding, conclusion-oriented steps of an audit program is positively associated with (1) the identification of the fraud red flag (as predicted) and (2) detections of mechanical errors (not predicted).  To clarify, auditors who performed better in the conclusion steps of an audit program were more likely to identify the fraud red flag and the misstatements.
• Performance of the mechanical, documentation-oriented audit steps is positively associated with detections of mechanical errors.  To clarify, auditors who performed better in the documentation steps of an audit program were more likely to identify the misstatements.

The results of the study identify two points where decision aids are likely to be successful in improving audit quality—when developing a mental representation of the “tone at the top” and/or when establishing a preliminary assessment of control environment effectiveness. Although developing an understanding of the client’s “tone at the top” requires retrieval of positive evidence supportive of “tone at the top” effectiveness, the process of doing so may undermine auditors’ efforts at incorporating negative evidence into their mental representations. Structuring decision aids, working papers, and reviews to ensure that the relatively abundant positive “tone at the top” information does not suppress the negative information would alleviate a favorable bias in the auditors’ “tone at the top” mental representations. This is critical given that “tone at the top” mental representations permeate subsequent audit decision making.  

For more information on this study, please contact Regan Schmidt.

Schmidt, R.N. 2014. The effects of auditors’ accessibility to “tone at the top” knowledge on audit judgments. Behavioral Research in Accounting 26 (2): 73-96.

Auditors must evaluate the “tone at the top” due to its pervasive impact on the client’s financial reporting practices and the auditors’ reliance on internal controls. However, few studies have examined how audit evidence unique to the “tone at the top” impacts audit judgments. The prior research has noted that, even in organizations that experience fraud, evidence for assessing “tone at the top” effectiveness tends to comprise a higher proportion of positive evidence supporting “tone at the top” effectiveness and a lower proportion of negative evidence supporting “tone at the top” ineffectiveness. There is also a concern expressed in auditing standards regarding the lack of documentary evidence relevant to assessing “tone at the top” effectiveness. Lacking such documentation, auditors must rely on their memory processes when evaluating “tone at the top” effectiveness. This study investigates whether the approach auditors use when accessing their memory of audit evidence influences their evaluations of “tone at the top” effectiveness and subsequent audit judgments.

The experimental research evidence was collected in 2008. The study participants were auditors with approximately two years of audit experience on average. Participants read the background information of the client company and were provided with 50 unchanging “tone at the top” information items (i.e., evidence). The study then manipulated how participants recalled the evidence from memory. Participants subsequently provided a preliminary assessment of the effectiveness of the control environment, a plausibility assessment of management’s explanation for differences noted in preliminary analytical procedures, and fraud risk assessments. 

• Holding the underlying evidence of the “tone at the top” constant, auditors who recall positive evidence supportive of “tone at the top” effectiveness prior to negative evidence develop more favorable “tone at the top” mental representations as compared to auditors who recall negative evidence prior to positive evidence. Accordingly, retrieving the abundant positive “tone at the top” evidence from memory may suppress accessibility to the negative “tone at the top” evidence.
• The auditors’ “tone at the top” mental representation significantly impacts the auditors’ control environment assessment, as well as subsequent audit judgments including the auditors’ reliance on client management’s explanation in analytical procedures and fraud assessments. Mediation analyses document that the control environment assessment mediates the relationship between the auditors’ “tone at the top” mental representation and subsequent audit judgments.
• This study clarifies the results of prior research that documented audit judgments were not sensitive to “tone at the top” information. By examining intervening cognitive processes, the results of this study provides an insight to suggest that, in prior studies, when auditors were making their audit judgments, the “tone at the top” evidence was not accessible (i.e., the negative “tone at the top” evidence was inhibited from the mental representation).

http://www.auditingresearchsummaries.org

This study provides important insights into the fraud assessment process. The most common method of risk assessment is to create summary fraud risk memos. However, the PCAOB recommends that auditors make documentation more specific in their assessments of fraud risk. This study suggests that when auditors receive specific documentation of fraud risks, alone, their fraud related judgments improve. However, the study provides evidence that when a more specific fraud risk memo is prepared and auditors are also reminded about the possibility of fraud (i.e., primed) that assessments of fraud actually decline. This is a significant finding considering that it is common in practice for auditors to be reminded about the possibilities of fraud, as a way to increase auditors’ awareness of fraud risk.

Hammersley, J.S., E.M. Bamber, and T.D. Carpenter. 2010.  The influence of documentation specificity and priming on auditors’ fraud risk assessments and evidence evaluation decisions.  The Accounting Review 85 (2): 547-571.

The authors investigate the effect of fraud planning discussions on subsequent fraud risk assessments, issue identification, and collection of additional evidence.  The PCAOB has expressed concern that auditors have a mindset that is too compliance-oriented and insufficiently fraud-oriented, especially during the evidence evaluation stage of an audit.  One suggested method of increasing fraud awareness is to increase documentation around fraud risks in the planning stage of the audit.  This study seeks to increase  nderstanding about the impact of increased fraud awareness in the planning of an audit.  Specifically, this study addresses the following questions:

• How does the level of specificity of the documentation of the fraud-related discussion prepared in the audit planning stage influence initial fraud risk assessments and subsequent evidence  evaluation?
• How does reminding an auditor of previously identified fraud risks impact his/her fraud mindset and influence subsequent judgments?

Much of the research is based on Support Theory, which predicts that a person will evaluate the likelihood of an event by evaluating the support for the underlying components of the events rather than assessing the probability of the event itself.

Audit seniors participated in this experiment.  The experiment took place prior to 2008 and was completed over two sessions.  During the first session, participants: read a case with key information regarding a client; listed 3 risks that would be raised at a fraud brainstorming session; watched a short video of the brainstorming session; read a briefing memo that outlined the planning decisions; and assessed preliminary client business risk.

In the second session, participants: received a summary of findings from completed audit work; listed important fraud risks (in one condition); reviewed and evaluated summary workpapers; and assessed final client business risk. 

• Auditors who reviewed memos that listed specific fraud risks, initially assessed fraud higher than those that reviewed summary fraud risk memos.
• Documenting specific risks in the planning stage fraud-risk memo causes auditors to assess fraud risk higher even after evidence evaluation.
• Auditors who review summary memos, assess fraud risk higher if they are reminded about the possibilities of fraud (i.e., primed), compared to if they are not reminded (i.e., unprimed).  Auditors who review specific memos, assess fraud risk higher if they are not reminded about the possibilities of fraud, compared to if they are reminded.
• Auditors not reminded about the possibilities of fraud and provided a specific memo will identify more issues than those provided a summary memo. However, there is no difference in the amount of additional evidence each group requests.
• When provided a summary memo, auditors reminded about the possibilities of fraud identify more issues and request more evidence than auditors not reminded.
• When provided a specific memo, auditors reminded about the possibilities of fraud identify fewer issues and request less evidence than auditors who are provided the summary memo and are not reminded.