Week 4: Risk assessment method

Question 1

What is the difference between audit and business risk?

Answer 1

Audit risk: The risk of the auditor expressing an inappropriate opinion on the financial statements.

Business risk: The risk that the business cannot meet their business objectives

Question 2

Is audit risk a function of business risk?

Answer 2

Yes, because business risk is much broader and contains the risk of misstatement. E.g., if business doesn’t do well if they expand there is a risk of misstatement in writing down cash and overstating inventory

Question 3

What are real examples of business risk?

Answer 3

Non-for-profit organizations: if they can’t serve social responsibility

Profit organizations: if they can’t generate profit

Question 4

What financial statement does the existence assertion refer to?

Answer 4

Asset liabilities and equities exist - the balance sheet

Question 5

What item does occurrence and completeness relate to?

Answer 5

Occurrence - whether all revenue has occurred (some record revenue in advance before it has actually occurred)
Completeness - whether all expenses have been recorded (some companies record less expenses)

Question 6

Which risk does the auditor have control over

Answer 6

Detection risk

Question 7

What reality factors make risk more inherent than is it?

Question 8

What else can business risk be known as?

Answer 8

Compliance risk

Question 9

Who handles business risk?

Answer 9

Management

Question 10

What risk does auditors assess but have no control of

Answer 10

Control risk

Question 11

Which risk has an inverse relationship with the efforts the auditor puts in

Answer 11

Detection risk, the higher the risk the lower the effort (vice versa)

Question 12

Which factors contribute to the audit risk

Question 13

What audit assertions are there?

Answer 13

• Existence or Occurrence
• Completeness
• Cut-off
• Rights and obligations
• Accuracy, classification,
  valuation and allocation
• Presentation and disclosure

Question 14

Which paragraph quotes the definition of audit risk?

Answer 14

ASA 200; ISA 200

Question 15

Can audit risk ever be zero?

Answer 15

No

Question 16

What are the definitions of the inherent, control and detection risk?

(their definitions)

Answer 16

Inherent risk: Risk that a material misstatement could occur
Control risk: Risk that client’s system of internal controls will not prevent or detect such a misstatement
Detection risk: Risk that the auditor’s testing procedures will not be effective in detecting a material misstatement should there be one system of internal controls

Question 16

In what stage does audit risk get reduced in and how?

Answer 16

During the risk response stage and identifying the key risks and adjusting audit effort accordingly

Question 17

What are the stages of an audit?

Answer 17

Phase 1: Perform risk assessment procedures
Phase 2: Assess risk of material misstatement
Phase 3: Respond back to risk
Phase 4: Perform further audit procedure
Phase 5: Evaluate audit evidence
Phase 6: Communite audit findings

Question 18

How is information material to users?

Answer 18

When it has an impact on their decision making process

Question 19

What guidance does materiality provide?

Answer 19

It guides audit planning, testing and assessment of information in financial report

Question 20

What characteristics does information have to be considered material?

Answer 20

Qualitative materiality nature of the item:
- fraud
- non-compliance with laws
- related party transactions
- change of accounting methods

Quantitative materiality magnitude of item
- set as a % of relevant base

Question 21

How do auditors set materiality?

Answer 21

Auditors use professional judgement

Question 22

What stage of the auditing process is materiality set?

(testing knowledge and how well I know of the phases)

Answer 22

Risk assessment phase

Question 23

How does audit firms vary in methods to set materiality percentages?

what documents do they set materiality on

Answer 23

They vary in methods to derive at an appropriate base percentage
- balance sheet bases include total assets or equity
- income statement bases include profit before tax, revenue or gross profit

Question 24

What is the strongest type of audit evidence?

Answer 24

External confirmation

Question 25

Whats the weakest form of audit evidence

Answer 25

Verbal evidence

Question 26

What are the 2 strong indicators of evidence?

Answer 26

Sufficient and appropriate

Question 27

True or false:

Auditor needs to gather sufficient and appropriate evidence about each assertion for each class of transactions, balances or disclosure

Answer 27

True

Question 28

Does auditors need to conduct more substantive tests for client with low risk?

(tests understanding of procedures used for client of different risk)

Answer 28

False