Analytical Procedures
Analytical procedures are auditing procedures that involve analysis of relationship between financial and non-financial data. These involve investigation of identified variances and relationships that seem inconsistent with each other or with other available audit evidence.
Analytical procedures are carried out at the planning stage to assess the risk inherent in the financial statements as a whole and in each account head. They are carried at the execution stage to obtain audit evidence. They are also carried out at the time of finalization of an audit to make sure the overall conclusions drawn are consistent.
Example
ABC LLP is auditing the financial statements of Mercury Instruments for the year ended 31 December 2012. In the financial year 2011, Mercury had 100 employees and its total salaries expense amounted to $6 million. The company's business suffered in financial year 2012, so no employee received any raise. The company had to lay off 10 of its employees from different divisions. The salaries expense for financial year 2012 amounted to $5.5 million. Obtain audit evidence by application of analytical procedures.
Analytical procedures can be applied here to find projected salaries expense for financial year 2012 based on the actual salaries expense for financial year 2011 (financial data) and relevant number of employees (non-financial data).
$$ \text{Salary per employee in 2011} \\= \frac{\text{Total Salary Expense}}{\text{Number of Employees}} \\= \frac{\text{\$6,000,000}}{\text{100}} \\= \text{\$60,000} $$
Total salaries expense for financial year 2012 (for 90 employees) = 90 × 60,000 = $5.4 million
In order to simply the analysis, we have assumed that employees are laid off right at the start of financial year 2012. In reality, a lot of fine-tuning is done to analytical procedures to refine the results. Any inconsistencies and differences are investigated. In this example, one reason for the the difference of $0.1 million between projected salaries expense for financial year 2012 and actual salaries expense for financial year 2012 can be a mid-year layoff instead of the assumed start-of-the-year layoff.
by Obaidullah Jan, ACA, CFA and last modified on