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The Interaction between Internal Control Assessment and Substantive Testing in Audits for Fraud

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  • J. REED SMITH
  • SAMUEL L. TIRAS
  • SANSAKRIT S. VICHITLEKARN

Abstract

We examine the interaction between internal control assessments and substantive testing in a model of fraud detection. The purpose of our study is to examine a two†stage model of the auditor†manager interaction in which the auditor assesses the “likelihood†or possibility of fraud in the first stage and conducts substantive tests in the second stage. We examine the allocation of audit resources across these two distinct facets of the audit. We find that, regardless of the auditor's allocation, the probability of undetected fraud remains the same, but the allocation of some audit resources to internal control assessment may provide cost savings for the auditor.

Suggested Citation

  • J. Reed Smith & Samuel L. Tiras & Sansakrit S. Vichitlekarn, 2000. "The Interaction between Internal Control Assessment and Substantive Testing in Audits for Fraud," Contemporary Accounting Research, John Wiley & Sons, vol. 17(2), pages 327-356, June.
    • Handle: RePEc:wly:coacre:v:17:y:2000:i:2:p:327-356
    DOI: 10.1506/P7V7-1VUY-0QP8-5W7U
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    References listed on IDEAS

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    1. Shibano, T, 1990. "Assessing Audit Risk From Errors And Irregularities," Journal of Accounting Research, Wiley Blackwell, vol. 28, pages 110-140.
    2. David R. Finley, 1994. "Game Theoretic Analysis of Discovery Sampling for Internal Fraud Control Auditing," Contemporary Accounting Research, John Wiley & Sons, vol. 11(1), pages 91-114, June.
    3. Patterson, Er, 1993. "Strategic Sample-Size Choice In Auditing," Journal of Accounting Research, Wiley Blackwell, vol. 31(2), pages 272-293.
    4. Caplan, D, 1999. "Internal controls and the detection of management fraud," Journal of Accounting Research, Wiley Blackwell, vol. 37(1), pages 101-117.
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    1. Charles J. Coates & Robert E. Florence & Kristi L. Kral, 2002. "Financial Statement Audits,a Game of Chicken?," Journal of Business Ethics, Springer, vol. 41(1), pages 1-11, November.
    2. Sezen Uludag, 2016. "The importance of control environment in an organization for an independent auditor to determine nature,timing, and extent of substantive tests: An application in Turkey," Journal of Administrative and Business Studies, Professor Dr. Usman Raja, vol. 2(6), pages 294-303.
    3. Ralf Ewert & Alfred Wagenhofer, 2019. "Effects of Increasing Enforcement on Financial Reporting Quality and Audit Quality," Journal of Accounting Research, Wiley Blackwell, vol. 57(1), pages 121-168, March.
    4. Kortebusch, Pia, 2014. "Should multinational companies request an advance pricing agreement (APA) - or shouldn't they?," arqus Discussion Papers in Quantitative Tax Research 173, arqus - Arbeitskreis Quantitative Steuerlehre.
    5. Christopher Bleibtreu & Ulrike Stefani, 2012. "The Interdependence Between Audit Market Structure and the Quality of Financial Reporting: The Case of Non-Audit Services," Working Paper Series of the Department of Economics, University of Konstanz 2012-01, Department of Economics, University of Konstanz.
    6. Reinhard Schrank, 2021. "The Impact of Damage Apportionment on Internal Control System Quality and Financial Reporting Accuracy," Abacus, Accounting Foundation, University of Sydney, vol. 57(2), pages 251-296, June.
    7. Yim, Andrew, 2010. "Fraud Detection and Financial Reporting and Audit Delay," MPRA Paper 27857, University Library of Munich, Germany.

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