Statistical audit sampling for portfolio-at-risk in microfinance

Purpose - The purpose of this paper is to provide a rigorous, statistically correct, and low-cost way to audit sample a lender's loan portfolio, be they a microlender or other type of lender. No other paper applies this method to loan portfolios, even though it is a high demand application. Design/methodology/approach - Standard techniques of audit sampling and dollar unit sampling with stratification are applied to the particular case of a microlender's portfolio. Unlike the audit sampling that almost all auditors use, no arbitrary rules of thumb are applied. Findings - The paper finds that statistical audit sampling for a lender's loan portfolio is simple, rigorous, and inexpensive. Practical implications - In audit sampling, most auditors use arbitrary rules of thumb and have no idea whether they are sampling enough items to actually be sure, with some desired level of confidence, that they have found no defects. This simple, inexpensive, and statistically rigorous technique will allow auditors who actually want to do a good job to quantify the precision of their statements in a very common application. Originality/value - This paper combines several disparate threads from the statistical literature on audit sampling in a way that auditors (who are usually not statisticians) can apply them for auditing the quality of a lender's portfolio - microfinance or otherwise - which is a very common need.