Copyright © 2014 Pearson Education Chapter 9 Considering Materiality and Audit Risk.
-
Upload
georgia-hoover -
Category
Documents
-
view
219 -
download
1
Transcript of Copyright © 2014 Pearson Education Chapter 9 Considering Materiality and Audit Risk.
Copyright © 2014 Pearson Education
Chapter 9
Considering Materiality and
Audit Risk
Chapter 9
Considering Materiality and
Audit Risk
Copyright © 2014 Pearson Education9-2
Apply the concept of materiality to the audit.
Make a preliminary judgment about what amounts to consider material.
Determine performance materiality during planning.
Use materiality to evaluate audit findings.
Define risk in auditing.
Copyright © 2014 Pearson Education9-3
Describe the audit risk model and its components.
Consider the impact of engagement risk on acceptable audit risk.
Consider the impact of several factors on the assessment of inherent risk.
Discuss the relationship of risks to audit evidence.
Discuss how materiality and risk are related and integrated into the audit process.
Copyright © 2014 Pearson Education
Apply the concept of materiality to the audit.Apply the concept of materiality to the audit.
9-4
Copyright © 2014 Pearson Education9-5
Major consideration in determiningthe appropriate audit report
Referenced in auditor’s responsibility section of the audit report
What is meant by the term “material”?
Copyright © 2014 Pearson Education9-6
Auditor’s responsibility = determine whether financial statements are materially misstated.
Auditor will bring material misstatements to the client’s attention so corrections can be made.
Copyright © 2014 Pearson Education9-7
Copyright © 2014 Pearson Education
Make a preliminary judgment about what Make a preliminary judgment about what amounts to consider material.amounts to consider material.
9-8
22
Copyright © 2014 Pearson Education9-9
Auditors set materiality thresholds early in theengagement.
Thresholds represent the maximum amount that statements could be misstated and still not affect users’ decisions.
Copyright © 2014 Pearson Education9-10
Materiality is a relative ratherthan an absolute concept.
Benchmarks are needed forevaluating materiality.
Qualitative factors alsoaffect materiality.
Copyright © 2014 Pearson Education9-11
Considerations that may render material a quantitatively small misstatement include:
Loan covenants Changing trend
Management compensation
Financial statement users Conceals an illegal act
Copyright © 2014 Pearson Education9-12
Accounting and auditing standards do not provide specific materiality guidelines.
Professional judgment is used to set and apply materiality guidelines.
Copyright © 2014 Pearson Education
Determine performance materialityDetermine performance materialityduring planning.during planning.
9-13
33
Copyright © 2014 Pearson Education9-14
Evidence is accumulated by segments rather than for the financial statements as a whole.
Most practitioners allocate materialityto balance sheet accounts.
Copyright © 2014 Pearson Education
Use materiality to evaluate audit findings.Use materiality to evaluate audit findings.
9-15
44
Copyright © 2014 Pearson Education9-16
Auditor can determine the misstated amount in an account (“Known”)
Two types of “Likely” misstatements: Judgmental differences Projections of misstatements from
audit samples
Copyright © 2014 Pearson Education9-17
Copyright © 2014 Pearson Education9-18
Estimated Misstateme
nt($31,500)
=Net misstatements in Sample ($3,500)Total sampled ($50,000)
× Total recorded population value ($450,000)
Copyright © 2014 Pearson Education
Define risk in auditing.Define risk in auditing.
9-19
55
Copyright © 2014 Pearson Education9-20
Auditors accept some level of risk in performing the audit.
Risks exist, are difficult to measure, and require careful thought in response.
Proper risk response is critical to achieving a high-quality audit.
Copyright © 2014 Pearson Education9-21
Auditors need to understand the client’s business and assess business risk.
The audit risk model helps identify the potential and likelihood of misstatements.
Copyright © 2014 Pearson Education9-22
PDR = AAR ÷ (IR × CR)
where: PDR = Planned detection risk
AAR = Acceptable audit risk
IR = Inherent risk
CR = Control risk
Copyright © 2014 Pearson Education9-23
Copyright © 2014 Pearson Education9-24
Sales andcollectioncycle
Acquisitionand paymentcycle
Payroll andpersonnelcycle
InherentriskA
B Controlrisk
C
D
Acceptableaudit risk
MediumMedium
MediumMedium HighHigh LowLow
LowLow LowLow
LowLow
Planneddetection risk MediumMedium
LowLow LowLow
MediumMedium HighHigh
Copyright © 2014 Pearson Education9-25
A
B
C
D
Inventory andwarehousingcycle
Capital acquisitionand repaymentcycle
Inherentrisk
Controlrisk
Acceptableaudit risk
Planneddetection risk
HighHigh LowLow
HighHigh
LowLow
LowLow
MediumMedium
LowLow
MediumMedium
Copyright © 2014 Pearson Education
Describe the audit risk model and Describe the audit risk model and its components.its components.
9-26
66
Copyright © 2014 Pearson Education9-27
Planned Detection
Risk
InherentRisk
Control Risk
Acceptable Audit Risk
Copyright © 2014 Pearson Education
Consider the impact of engagement risk Consider the impact of engagement risk on acceptable audit risk.on acceptable audit risk.
9-28
77
Copyright © 2014 Pearson Education9-29
What is Engagement Risk?
Copyright © 2014 Pearson Education9-30
Auditors decide engagement risk and use that risk to modify acceptable audit risk.
Engagement risk closely relates to client business risk.
Copyright © 2014 Pearson Education9-31
The degree to which external usersrely on the statements
The likelihood that a client will havefinancial difficulties after theaudit report is issued
The auditor’s evaluation of management’s integrity
Copyright © 2014 Pearson Education9-32
Copyright © 2014 Pearson Education
Consider the impact of several factors on Consider the impact of several factors on the assessment of inherent risk.the assessment of inherent risk.
9-33
88
Copyright © 2014 Pearson Education9-34
Nature of Client’s Business
Industry practices Non-routine transactions Makeup of the population
Audit Experience
Prior audit results Initial vs. repeat engagement Audit judgment required to
correctly record balances and transactions
Culture Related parties Factors related to fraudulent financial reporting Factors related to misappropriation of assets
Copyright © 2014 Pearson Education
Discuss the relationship of risks Discuss the relationship of risks to audit evidence.to audit evidence.
9-35
99
Copyright © 2014 Pearson Education9-36
Acceptable audit risk
Inherentrisk
Planneddetection
risk
Plannedaudit
evidence
Control risk
I
D
I
DD
Factorsinfluencing
risks
Copyright © 2014 Pearson Education9-37
Auditors can change the audit to respond to risks
The engagement may require more experienced staff
The engagement will be reviewed more carefully than usual
Copyright © 2014 Pearson Education9-38
Both control risk and inherent risk aretypically set for each cycle, eachaccount, and often each auditobjective, not for the overall audit.
Copyright © 2014 Pearson Education9-39
It is common to assess inherent and control risk for each balance-related audit objective
It is not common to allocate materiality to objectives
Copyright © 2014 Pearson Education9-40
Copyright © 2014 Pearson Education9-41
One major limitation in the audit risk model is the difficulty of measuring the components of the model.
Preliminary Assessed Level
of Risk
Actual level of risk achieved on the audit
+/-
Known Unknown
Copyright © 2014 Pearson Education9-42
Auditors develop various types of worksheets to aid in relating the considerations affectingaudit evidence to the appropriate evidence to accumulate.
Copyright © 2014 Pearson Education
Discuss how materiality and risk are related Discuss how materiality and risk are related and integrated into the audit process.and integrated into the audit process.
9-43
1010
Copyright © 2014 Pearson Education9-44
Acceptableaudit risk
Inherentrisk
Controlrisk
Performancemateriality
D = Direct relationship; I = Inverse relationship
Planneddetection risk
Plannedaudit evidence
I
II D I
IDD
Copyright © 2014 Pearson Education9-45
The auditor must revise the originalassessment of the appropriate risk.
The auditor should consider the effectof the revision on evidence requirements,without the use of the audit risk model.
Copyright © 2014 Pearson Education9-46
Copyright © 2014 Pearson Education
Copyright
All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.
9-47