A8 Audit Risk Flashcards
Detection Risk
Controlled by the auditor. The risk that an auditor will not detect a material misstatement relevant to an assertion. Inversely related to the risk of material misstatements. AN increase in RMM would result in a decrease in allowable risk.
Inherent Risk
Independent of the audit. The susceptibility that an error or omission will occur in a financial statement due to a factor other than a control failure. This is basically the likelihood of the numbers being wrong or disclosures being incorrect.C
Control RIsk
Independent of the audit. The risk that a material misstatement will not be prevented or detected on a timely basis.
Detection Risk Movements
DR increases, SAP/ Tests decrease. DR decreases, SAP/Tests increase
Control Risk Movements
Low CR occurs when controls do work. High CR occurs when they don’t work.
Difference Between Fraud & Error
Fraud is an intentional act to deceive, while error is an unintentional mistake.
Audit Risk
Risk that an auditor may unknowingly fail to appropriately modify the opinion on the FS that are materially misstated.
Material Misstatement
An omission or misstatement of information that makes it probable the judgement of a reason person relying on information would have influenced them.
Factual Misstatements
There is no doubt. Example is a client misses a zero or transpose a number.
Judgmental Misstatements
Differences arising from mgmt judgement.
Projected Misstatements
The auditors best estimate of misstatements in population which involves the projection of misstatements, identified in audit samples to the entire population that samples were drawn.
Audit Risk Model
AR = RMM x DR = IR x CR x DR. Can also be written as DR=AR / RMM
AR = usually low
IR = High usually when accounts are likely to contain MM. Low usually when accounts are less likely to be MM.
CR = High usually when clients have poor controls/ Substantive testing is the only way to get SAE. Low usually when client has good controls & are tested to prove the assessment.
DR = Inverse relationship with RMM. Usually high when RMM is high. Usually low when RMM is low
Risk of Material Misstatements
Exists when there’s a reasonable possibility of a misstatement occurring & if it does then there’s reasonable possibility of it being material. RMM = IR x CR
Material
A class of transaction, account balance, or disclosure is material if there is a substantial likelihood that omitting or misstating would influence the judgement of a reasonable user.
Relationship between AR & Materiality
There is an inverse relationship between audit risk & materiality because the risk of a very large misstatement maybe low whereas the risk of a small misstatement may be high.
