Audit & Assurance Flashcards
What stages of the audit is Materiality important?
Planning - which balances and transactions to focus on and decide audit procedures
Execution - Evaluate errors discovered and determine the extent of additional procedures required
Reporting - Evaluate aggregate of uncorrected errors that have been identified
Steps in Setting Materiality
- Identify users of the financial statements
- Identify users objectives
- Determine base for materiality
- Identify percentage threshold for materiality
- Determine overall materiality
- Determine performance materiality
- Determine specific materiality
- Determine specific performance materiality
Common Base Overall Materiality Benchmarks and their % threshold
Income before tax (5% - 10%) Total Assets (0.5% - 2%) Revenues (0.5% - 2%) Expenses (0.5% - 2%) Equity (0.5% - 5%)
Factors in determining overall materiality
Financial Statement Level
unusual or non-recurring items that need to be normalized or adjusted for
- Management bonuses
- g/l in disposal of PP&E
Determining Performance materiality
Financial Statement Level
Auditor focused - considers the amount of audit work required to ensure that the identified and potentially unidentified misstatements will not exceed overall materiality
Usually 60% - 75% of overall materiality
Determining Specific Materiality
Account Level
If there are balances or classes of transactions where an amount less than overall materiality would influence or change the decision of a known user.
- Specific risks and balances in sensitive audit areas
- Based on objectives not risk
Amount must be less than less than the overall materiality
Determining Specific Performance Materiality
Account Level
Set at level lower than both Overall Materiality and Specific Materiality
Base at 60% - 75%
Difference between Materiality and Audit Risk
Materiality - Driven by the needs of the users of the financial statements
Audit Risk - Based on factors that relate to the company
Calculating Normalized Income Base
Income before taxes - Gains \+ Losses \+ Management Bonuses \+ Severance Payments
What is the relationship between Materiality and Audit Risk
Performance materiality is set by the auditor with the objective of reducing the likelihood of undetected material misstatements and the audit risk to an acceptably low level.
Who is the main user if a company is at risk of going concern?
Bank - interested in exercising its claim on assets
What is Audit Risk
The risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated
Function of ROMM and Detection Risk
Both inherent and control risk are then assessed, and the practitioner derives an acceptable level of detection risk
What is ROMM
Risk of Material Misstatement
= IR * CR
The risk in the financial statements prior to audit, because of the clients inherent risk (IR) and control risk (CR).
The auditor does not control this risk but merely assesses it.
Detection Risk
The risk that the procedures performed by the auditor will not detect a material misstatement
High ROMM = we need a low detection risk
- More assurance is needed from procedures
Low ROMM = High DR
- Less detailed procedures are required
Inherent Risk
= Before related controls
- Poor financial health
- 1st time audited
- Market Competition
- Industry Regulation
- Potential Sale/ Acquisition
- IPOS
- Performance Bonuses
Control Risk
= will not be prevented, detected, or corrected on a timely basis by the entity’s internal control
- Outdated technology (GL system)
- Segregation of duties
- Management attitude
- Lack of internal audit function
- Lack of policies and documentation
Responses to ROMM
- Emphasizing professional skepticism to the audit team
- Assigning more experienced staff to the audit team
- Increasing supervision of the audit
- Adding elements of unpredictability in audit procedures
- Making changes to the nature, timing, and extent of the audit procedures
- If the company has multiple locations/branches, increasing the number of locations/branches to be tested
Pervasive Risks
Cannot be isolated to a single account
- Overall Financial Statement Risk
Auditors requirement of Control Risk
The auditor is only required to obtain an understanding of internal controls relevant to the audit
- Evaluating the design of the controls and determining whether the controls have been implemented as designe
Going Concern
Entity is viewed as continuing in business for the foreseeable future
Going Concern - Management Responsibility
Public companies
- 12-month assessment of the company’s ability to continue as a going concern
Going Concern - Auditors Responsibility
Assess if management has done an appropriate job of supporting the going-concern assumption
a) To obtain sufficient appropriate audit evidence regarding the appropriateness of management’s use of the going concern assumption;
b) To conclude, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the entity’s ability to continue as a going concern; and
c) To report in accordance with this CAS
Requirement if going concern assumption is not correct
If disclosures are adequate - Issue unqualified opinion and include an Emphasis of Matter paragraph in the audit report
If the disclosure is inadequate - Issue an adverse opinion
Two types of Fraud
- Fraudulent Financial Reporting
- Management Level
- Intentional omissions or manipulation of amounts
- Manage users and influence user perceptions - Misappropriation of assets
- Employee Level
- Embezzlement, and theft of property
Three Fraud Pillars
- Incentives and Pressures
- Opportunity
- Rationalization and Attitude
Auditor’s Responsibilities - Fraud
- Identify and assess the risks of material misstatement of the financial statements due to fraud
- Obtain sufficient appropriate audit evidence regarding the assessment of risks of material misstatement due to fraud through designing and implementing appropriate responses
- Respond appropriately to fraud or suspected fraud identified during the audit
Auditor’s Discharging Responsibilities - Fraud
- Determine audit responses to address risk of material misstatement.
- Evaluate audit evidence to consider whether an identified misstatement may indicate fraud has occurred.
- Obtain written representations from management in relation to fraud.
- Communicate with management, those charged with governance, and regulatory authorities.
Response to Audit Risk at Assertion Level
Practitioner will need to design and perform additional audit procedures based on the risk of material misstatement. If the auditor concludes that fraud risk exists for a particular material class of transactions, account balances, and disclosures, the auditor shall treat those assessed risks of material misstatement due to fraud as significant risks.
What make up risk
Account + Assertion + Facts
1st step - identity assertion
