AUD Module 1

AUD Module 1
Conclusion
Common Problem Areas
Relationship between materiality and audit risk
Smallest aggregate materiality
Audit risk model and components
Required T of C performance
T of C vs. T of Details
Risk assessment procedures vs. tests of
controls
Copyright 2014, John Wiley & Sons, Inc. All rights reserved.
Audit Risk and Materiality
Not a direct relationship
But related! the auditor must consider audit risk and
determine materiality
Remember AR = the risk of issuing the wrong opinion
In a highly risky audit, e.g., a planned IPO situation,
planned materiality will be reduced
Why?
Because you dont want to risk missing a MM. You will
reduce materiality to look at more.
Smallest Aggregate Materiality
Requirement to set materiality at smallest
amount material to any one of the FS, i.e.,
smallest aggregate materiality
Which statement is likely to have the smallest
materiality?
Balance sheet - % of assets
Income statement - % of net income, % of sales
Never see references to materiality for SCF or RE,
likely because NI included
AICPA.070641AUD
Which of the following statements is correct concerning
materiality in a financial statement audit?
A. Analytical procedures performed during an audit's review
stage usually decrease materiality levels.
B. If the materiality amount used in evaluating audit findings
increases from the amount used in planning, the auditor
should apply additional substantive tests.
C. The auditor's materiality judgments generally involve
quantitative, but not qualitative, considerations.
D. Materiality levels are generally considered in terms of the
smallest aggregate level of misstatement that could be
considered material to any one of the financial statements.
Audit Risk Model and Components
Audit Risk at the FS Level
No breakdown into components
Audit Risk Model at the Individual Account
Balance, Class of Transactions, or Disclosure
Level
IR, CR, DR
IR, CR = environmental risks of the client,
assessed by auditor
DR only risk controllable by auditor
Audit Risk Model
AR = IR * CR * DR
AR, DR direct
AR, DR and IR, CR - inverse
Audit Risk Model - Numbers
AR = IR * CR * DR
Example 1: .05 = 1 * 1 * X
X = .05
Example 2: .05 = .7 * .7 * X
X = .10
What does it mean?
AICPA.931107AUD-AU
On the basis of audit evidence gathered and
evaluated, an auditor decides to increase the
assessed level of control risk from that originally
planned. To achieve an overall audit risk level that is
substantially the same as the planned audit risk level,
the auditor would
A. Increase inherent risk.
B. Increase materiality levels.
C. Decrease substantive testing.
D. Decrease detection risk.
Required T of C Performance
Only required IF IC reliance planned
Any control assessment below maximum =
Planned reliance
Need to verify design of IC related to 5
components when gaining understanding
AICPA.930512AUD
In obtaining an understanding of an entity's
internal control structure, an auditor is
required to obtain knowledge about the
Operating eectiveness of policies and
procedures Yes/No
Design of policies and procedures Yes/No
More detailed coverage in Audit Evidence
Intro to types of audit procedures
Analytical procedures (planning and final review)
T of C
Substantive tests
Tests of details
Tests of ending balances
Tests of transactions
Substantive analytical procedures
Exception: T of D performed as T of C
Example:
The process for sales invoices is for a 2nd
person to verify the mathematical
accuracy of the invoice.
You want to verify that the control was
performed correctly. You recalculate the
numbers on a sample of sales invoices.
This is a T of D performed as a T of C.
AICPA.901141AUD-AU
The objective of tests of details of transactions
performed as tests of controls is to
A. Detect material misstatements in the account
balances of the financial statements.
B. Evaluate whether an internal control structure
policy or procedure operated eectively.
C. Determine the nature, timing, and extent of
substantive tests for financial statement
assertions.
D. Reduce control risk, inherent risk, and detection
risk to an acceptably low level.
Risk assessment procedures vs. T of C
Risk assessment procedures
Performed to gain understanding
Inquiry, analytical procedures, observation and
inspection
Tests of controls
Performed to verify operating eectiveness of control
Inquiry (more specific), observation (more specific),
inspection (more specific)
Inquiring about managements use of budgets
Observing managements comparison of monthly
budget to actual
Inspecting reports about variance investigations
FAQ
What kinds of things does the auditor communicate
to the client related to audit planning?
Logistics, e.g., planned inventory observations
in as much detail as needed to get access
No judgments, e.g., audit risk, control risk
No audit programs
Remember management fraud is something
that must be considered and tested for
AICPA.950501AUD-AU
The element of the audit planning process most likely
to be agreed upon with the client before
implementation of the audit strategy is the
determination of the
A. Evidence to be gathered to provide a suicient
basis for the auditor's opinion.
B. Procedures to be undertaken to discover litigation,
claims, and assessments.
C. Pending legal matters to be included in the inquiry
of the client's attorney.
D. Timing of inventory observation procedures to be
performed.
FAQ
Why isnt this factor a fraud risk?
A new computer system or senior management
includes a majority stockholder
Could result in fraud
If missing controls over systems development
If domineering manager and ineective B of D
Could also have positive eects
More eicient system due to improvements
More involvement and concern due to ownership
Dont add too many assumptions to your analysis
Try to stick with what is presented in the scenario
AICPA.010503AUD-AU
Which of the following factors would be most likely to
heighten an auditor's concern about the risk of
fraudulent financial reporting?
A. Large amounts of liquid assets that are easily
convertible into cash.
B. Low growth and profitability as compared to other
entities in the same industry.
C. Financial managements participation in the initial
selection of accounting principles.
D. An overly complex organizational structure
involving unusual lines of authority.
FAQ
Why is the answer to the research question this
paragraph instead of that paragraph?
Because the answer must be a single
paragraph, the question must be read very
carefully.
The wording used will direct you to a single
paragraph that answers the question.
You cant rely solely on search functions.
TBS Research Question
AICPA Professional Standards provide specific
guidance to auditors about the consideration
of and audit procedures related to fraud in an
audit engagement. Select the specific
paragraph from the applicable Statement on
Auditing Standards which provides the
definition of fraud.
TBS Research Question
AU-C 240.11
For purposes of GAAS, the following terms have
the meanings attributed as follows:
Fraud. An intentional act by one or more
individuals among management, those
charged with governance, employees, or
third parties, involving the use of deception
that results in a misstatement in financial
statements that are the subject of an audit.
FAQ
Is the auditor always free to take a wholly
substantive approach and skip testing controls?
Of course not theres always an EXCEPTION!
When substantive procedures alone fail to
provide suicient appropriate evidence, HAVE
to test controls
When business conducted via IT with no
documentation of transactions other than in IT
system, e.g., automated purchasing
Most Missed Questions

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