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ABS > Module 14: Planning 1 - Assessing Risk > Flashcards

Module 14: Planning 1 - Assessing Risk Flashcards

1
Q

Business risks

A
  1. Operational/strategic
    - market
    - organisational
    - financial
  2. Reliable financial reporting
  3. Compliance
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2
Q

When is a business risk relevant

A

BR is only relevant as an INHERENT RISK if it could result in a material misstatement in the FS

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3
Q

Account specific risk

A
  • significant development
  • complex
  • non-routine
  • judgemental
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4
Q

3 types of risk

A
  1. Business risk
  2. Account specific risk
  3. Control weaknesses
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5
Q

Exam tip: Industry specific risks

A

Additional audit risks within certain industries

May arise because of:

  • specific account balance
  • changes in accounting policies/treatment
  • increased regulatory requirements of certain sectors
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6
Q

Industry specific risks

A
  1. Big data
    - sig business risks as big data relevant to how client assesses risks, exercises internal control and reviews financial performance
  2. insurance companies
    - potential future settlements of incurred insurance claims by customers = claim reserve = complex accounting and judgemental
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7
Q

Setting overall materiality: 5 step process

A
  1. Select an APPROPRIATE BENCHMARK (justify)
  2. Select the appropriate RANGE to APPLY THE BENCHMARK
  3. select the data to be used to CALCULATE MATERIALITY (Justify)
  4. CALCULATE the materiality range based on 1-3
  5. Select the FINAL MATERIALITY figure from within the range (justify)
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8
Q

Which benchmark to apply to materiality in the exam?

A

In this order:

  1. PBT if not volatile
  2. Revenue if profit is volatile
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9
Q

Appropriate % based on professional judgement but use:

In exam say: the appropriate range is…

A 
PBT - 5-10%
Operating expenses - 0.5-2%
Revenue - 0.5-2%
Total assets - 0.5-2%
Net assets - 0.5-2%
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10
Q

Materiality step 3: select the data to be used

A

Relevant data depends on what is available. Select the most representative
See Tolley book (PY, year to date and forcast/budget)

Forecasts - don’t use directly, they are a good sense checking tool

Prudent to go with the lower number

Data should be adjusted to show normalised figures - adjust for exceptional one off items

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11
Q

Step 4: Calculate materiality range

A

“If PBT was selected as the most appropriate benchmark, overall materiality would be between £25m and £50m (5-10%)”

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12
Q

Step 5: select the final materiality figure within the acceptable range

A

If risk factors high => materiality % is low

Risk factors to consider:

  • whether entity is LISTED or a PIE
  • FIRST YEAR AUDIT
  • GC issues
  • SIG audit risks
  • MATERIAL MISSTATMENT in PAST
  • HIGH FRAUD risk
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13
Q

PM

A
  • set at less than overall materiality to reduce the probability that the aggregate of individually immaterial uncorrected/undetected misstatements exceeds overall materiality
  • professional judgement
  • firms commonly apply % between 50-75%
    The riskier the client, the lower the %
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14
Q

PM factors

A

Lower %

  • many PY misstatements
  • POOR controls in PY
  • expectation of misstatements

HIGHER %

  • low PY misstatements
  • GOOD controls
  • low expectation of misstatements
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15
Q

Trivial threshold

A

Auditor accumulates misstatements other than those that are clearly trivial = clearly inconsequential

  • firms generally use 0-5% of overall materiality
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16
Q

Analytical procedure techniques

A

Used to gain understanding of the entity with COMPARISON, RATIO ANALYSIS and REASONABLENESS TESTS being the most common techniques

revenue or payroll expectation = reasonableness test

The ratios used will depend on the client or industry

17
Q

Analytical procedures: Profitability

A

Turnover growth
GP margin
Direct costs as a proportion of revenue

18
Q

Analytical procedures: Management

A

DTR
DTP
Inventory days or turnover

19
Q

Analytical procedures: Liquidity

A

Current ratio

Quick ratio

20
Q

Analytical procedures: Risk

A

Gearing

Interest cover

21
Q

Planning analytical review exam approach checklist

A
  1. read scenario, annotate key info and CREATE an EXPECTATION if info available
  2. CALCULATE KEY RATIOS and movements straight onto word
  3. For each relevant movement, TIE SCENARIO info and IDENTIFY the POSSIBLE AUDIT RISK
22
Q

What should you never do to balance sheet amounts

A

Pro-rate

23
Q

CAATs

A

involve using computer programs and data to perform audit procedures

24
Q

ADA - audit data analytics

A

more recent term
- describe the use of CAATs and the use of computer-based techniques to perform audit procedures

IAASB defined ADA as the art of discovering and analysing PATTERNS, DEVIATIONS and INCONSISTENCIES

25
Q

CAATS and ADA: the advantages

A

used where the volume of transactions to be tested is significantly large and processing of transactions is automated:
Following ads:
1. Improvement in extent of audit testing
- speed and accuracy of processing large volumes => increase extent of audit verification => reduce/eliminate sampling risk

  1. Performance of manually impossible procedures
    - where manual methods are impossible, CAATs make it possible. Normally occurs in MORE SOPHISTICATED computer systems where no audit trail
  2. Cost effectiveness
    - may be cost effective when compared to its manual alternative.
    - initial cost of investment and payback period should be considered
  3. Elimination of repetitive work
    - frees the auditor to CONCENTRATE on the important JUDGEMENTAL areas of the audit
  4. Increased knowledge of the client’s system and procedures
    - CAATs greatly enhances their DETAILED knowledge of the client’s processing system
26
Q

Examples of ADA tools currently being used by auditors in planning include:

A
  • analysing 100% of transactions in a population, stratifying the population and then identifying outliers for further examination (revenue analytics)
  • comparing entity data with externally obtained data
  • semantic or sentiment monitoring of textual information e.g. such as contained in emails or social media => external commentary can highlight reputational damage or fraud
  • mapping of core processes to check accounting transactions against expected accounting patterns (e.g. revenue being recorded through sales ledger) to identify any deviations
  • monitoring data to assess compliance with ‘Benford’s Law’ and deviations investigated as indicative of fraudulent manipulation
  • supporting analytical procedures e.g. visualisation techniques to assist in trend analysis
27
Q

Emergence of big data technologies may significantly affect:

A
  • TIMELINESS and DYNAMISM of analysis. Velocity of big data = analyse in NEAR-REAL TIME
  • emergence of INTUITIVE VISUALISATION AND DASHBOARD PLATFORMS greatly increases the accessibility and user friendliness of data analysis tools
  • consequent UPTAKE of methods. With the right TRAINING = expand the range of audit team members who can usefully perform such analyses

ANOTHER BENEFIT:
- value that can be added back to the client through ad-hoc advice and mgmt letter => competitive advantage when tendering (good for small-med businesses who wouldn’t be able to afford their own analytical tools => benefit from the auditor’s)

DRAWBACK:
- concerns over how these new techniques sit within the auditing standards

ABS (14 decks)

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