Audit Risk

Question 1

Audit Risk

Answer 1

The risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated. Audit risk is a function of the risks of material misstatement and detection risk

Question 2

Reasonable Assurance

Answer 2

In the context of an audit of financial statements, a high, but not absolute, level of assurance.” Note that reasonable assurance means a “high level of assurance” and a “low level of audit risk.

Question 3

Auditor Responsibility

Answer 3

The auditor should properly plan and perform the audit to obtain reasonable assurance that material misstatements, whether caused by errors or fraud, are detected.

Question 4

Considerations at the Financial Statement Level

Answer 4

The one overriding audit planning objective is to limit audit risk to an appropriately low level (as determined by the auditor’s judgment), which involves the following:

1) Determining the extent and nature of the auditor’s risk assessment procedures
2) Identifying and assessing the risk of material misstatement
3) Determining the nature, timing, and extent of further audit procedures
4) Evaluating whether the financial statements taken as a whole are presented fairly in conformity with GAAP

Question 5

Risk of Material Misstatement

Answer 5

The risk that the financial statements are materially misstated prior to the audit.” RMM exists at two levels: (1) the overall financial statement level; and (2) the assertion level for classes of transactions, account balances, and disclosures.

Question 6

RMM at the assertion level consists of two components

Answer 6

1) Inherent Risk
2) Control Risk

The auditor assesses RMM at the assertion level for the purpose of determining the nature, timing, and extent of further audit procedures to obtain sufficient appropriate audit evidence

Question 7

RMM at the Overall Financial Statement Level

Answer 7

This refers to risks that are “pervasive” to the financial statements and that potentially affect many assertions.

Question 8

At the assertion level, audit risk consists of three component risks:

Answer 8

1) Inherent Risk
2) Control Risk
3) Detection Risk

Question 9

Inherent Risk

Answer 9

The probability that a material misstatement would occur in the particular audit area in the absence of any internal control policies and procedures.

**arises because of the particular audit area under investigation

Question 10

Control Risk

Answer 10

The probability that a material misstatement that occurred in the first place would not be detected and corrected by internal controls that are applicable.

**reflects management’s responsibility to design and implement internal controls.

Question 11

Detection Risk

Answer 11

The probability that a material misstatement that was not prevented or detected and corrected by internal control was not detected by the auditor’s substantive audit procedures

** is the only component risk that is specifically the auditor’s responsibility

Question 12

If IR and CR are seen by the auditor as too high:

Answer 12

the auditor must compensate by decreasing DR

Question 13

If IR and CR are perceived as low

Answer 13

the auditor may consider accepting a higher DR.

Question 14

Increasing or decreasing DR is accomplished by

Answer 14

adjusting the nature, timing, and/or extent of the auditor’s substantive audit procedures.