## Analytical Procedures

Definition: Analytical procedures use comparisons and relationships to assess whether account balances or other data appear reasonable.

### Purpose of Applying Analytical Procedures

When comparing P&L items across periods, the auditor can:

Purpose	How
Identify profit changes	Compare current P&L with prior period; investigate reasons for increase/decrease in profits
Ratio analysis	Set expense ratios (e.g., expenses to sales, gross profit to sales); compare with prior year ratios
Detect manipulation	Where differences are material, assess whether accounts have been manipulated to inflate or suppress profits
Identify unusual items	Identify unusual transactions, events, amounts, ratios, and trends with audit implications

### Analytical Procedures for Purchases (Specific Application)

Procedure	Description
Consumption Analysis	Compare raw material consumed (per manufacturing account) with prior years; investigate significant variations
Stock Composition Analysis	Compare raw material as % of total stock with prior year; investigate significant variations
Ratio Analysis	Compare creditors turnover ratio and stock turnover ratio with prior years
Quantitative Reconciliation	Review reconciliation: opening stock + purchases − consumption = closing stock

Worked example

### Example 1

Scenario 1 (Grape Ltd.): Auditor compares items in the current year P&L with prior years. Result: notices salary expense ratio to revenue jumped from 18% to 28%. This triggers inquiry — was there a bulk hire? A VRS payout? An error? If management cannot explain the change satisfactorily, it may indicate misstatement or manipulation.

### Example 2

Scenario 2 (PQR Ltd. — electrical components): To verify purchases are not understated/overstated: (i) Compare raw material consumption ratios with prior years — a sharp drop in consumption with same output level may indicate purchases are being understated; (ii) Compare creditor days ratio — a sudden increase could indicate unrecorded liabilities; (iii) Perform a quantitative reconciliation: if opening stock + purchases − consumption ≠ closing stock (per physical count), the difference must be explained.

⚠️ Common exam mistakes

Using analytical procedures as a substitute for tests of detail rather than as a complement — analytical procedures identify where to look, but cannot alone provide sufficient evidence for high-risk items.
Accepting management explanations for analytical variances without corroborating evidence — explanations must be supported by audit evidence.
Applying consumption analysis only at an aggregate level without drilling into product-line or location-level data — manipulation may be hidden at the aggregate level.
Forgetting to document the auditor's expectation before performing the analytical procedure — the comparison is only meaningful against a pre-formed expectation.

Reference:

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Analytical Procedures — Purpose and Types

Worked example

⚠️ Common exam mistakes