Audit Risk and Materiality Flashcards
What is audit risk?
The risk is that the auditor expresses an inappropriate opinion when the financial statements are materially misstated.
What are the components of Audit risk?
- Inherent risk
- Control risk
- Detection risk
What is Inherent risk?
The risk of material misstatement occurring before considering internal controls
What factors increase inherent risk?
- Complexity
- Subjectivity
- Change
- Uncertainty
- Management bias
What is control risk?
The risk that a misstatement will not be prevented, detected, or corrected by the entity’s internal controls.
Why is there always some control risk?
Becuase no internal control system is perfect - human error, collusion, and cost benefit limits exist.
What is detection risk?
The risk that the auditors procedures will not detect a material mistatement
What causes detection risk?
- Inappropriate audit procedures
- Misapplication of audit procedures
- Sampling risk
- Misinterpretation of results
How is audit risk mathematically expressed?
Audit risk = Inherent risk x Control risk x Detection risk
What is materiality in auditing?
Information is material if its omission or misstatement could influence the decisions of users of the financial statements
What are the two properties of Materiality?
- Quantitative (size of the Misstatement)
- Qualitative (nature of misstatement)
What is Overall materiality?
Materiality for the financial statements as a whole, typically a percentage of a key benchmark like profit or revenue
What is performance materiality?
An amount set lower than overall materiality to reduce the risk that aggregate errors exceed overall materiality.
What is Clearly trivial in terms of materiality?
Small errors or mistatements deemed inconsequential and not accumulated
