Lesson 5: Audit risk And audit evidence Flashcards Preview

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Flashcards in Lesson 5: Audit risk And audit evidence Deck (30)
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1
Q

What type of approach is required by ISAs when auditing?

A

Risk-based approach

2
Q

What happens in a risk-based approach?

A

Auditors analyse the risks associated with the client’s business, transactions and systems which could lead to misstatements in the financial statements, and direct their testing to risky areas

3
Q

Define audit risk

A

Audit risk is the risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated

4
Q

What two levels can a misstatement be at?

A

Financial statement level

Individual account balance or disclosure leve

5
Q

Audit risk has two major components,

what are they?

A

One is dependent on the entity, and is the risk of material misstatement arising in the financial statements (inherent risk and control risk).
The other is dependent on the auditor, and is the risk that the auditor will not detect material misstatements in the financial statements (detection risk

6
Q

What is the equation for audit risk?

A

Audit risk = Inherent risk x Control risk x Detection risk (AR = IR x CR x DR)

7
Q

Define inherent risk

A

Inherent risk is the probability of loss based on the nature of an organization’s business, without any changes to the existing environment. The concept can be applied to the financial statements of an organization, where inherent risk is considered to be the risk of misstatement due to existing transactional errors or fraud.

8
Q

Define controlled risk

A

Control risk is the probability that financial statements are materially misstated, due to failures in the system of controls used by a business.

9
Q

Define detection risk

A

This risk is caused by the failure of the auditor to discover a material misstatement in the financial statements.

10
Q

Finish the sentence Detection risk is a function of the effectiveness

A

of an audit procedure and of its application by the auditor.

11
Q

What is Professional scepticism

A

‘An attitude that includes a questioning mind, being alert to conditions which may indicate possible misstatement due to fraud or error, and a critical assessment of audit evidence.’

12
Q

What are the three risk assessment procedures

A

Inquiries of management and other within the entity
Analytical procedures
Observation (e.g. of control procedures) and inspection (e.g. of key strategic documents and procedural manuals).

13
Q

Inquiry

A

The auditors will usually obtain most of the information they require from staff in the accounts department, but may also need to make enquiries of other personnel, for example, internal audit, production staff , management or those charged with governance.

14
Q

Observation and inspection

A

Include observing the normal operations of a company, reading documents or manuals relating to the client’s operations or visiting premises and meeting staff.

These techniques are likely to confirm the answers made to inquiries made of management.

15
Q

What does Analytical procedures mean

A

‘Analytical procedures’ means the analysis of relationships to identify inconsistencies and unexpected relationships.

16
Q

Analytical procedures include the following type of comparisons:
name the 6

A

(a) Prior periods
(b) Budgets and forecasts
(c) Industry information
(d) Predictive estimates
(e) Relationships between elements of financial information, ie ratio analysis
(f) Relationships between financial and non-financial information, e.g. payroll costs to the number of employees

17
Q

What are the 7 types of audit evidence that every audit procedure obtains one or more

A
  1. Inspection
  2. Observation
  3. Confirmation
  4. Recalculation
  5. Reperformance
  6. Analytical procedures
  7. Inquiries of the client
18
Q

What happens during inspection and observation

A

Inspection—The auditor’s examination of the client’s documents and records to substantiate the information in the financial statements.
Observation—Watching a process or procedure being performed by others.

19
Q

What happens during confirmation and recalculation

A

Confirmation—The receipt of a direct written response from a third party verifying the accuracy of information that was requested by the auditor.

Recalculation—Rechecking a sample of calculations made by the client.

20
Q

What happens during reperformance and analytical procedures

A

Reperformance—The auditor’s test of client accounting procedures or controls.Analytical
Procedures—The evaluation of financial information through analysis of plausible relationships among financial and nonfinancial data and are required during planning and completion phases of all audits.

21
Q

What happens during the last stage if inquiry

A

Inquiry—Obtaining written or oral information from the client in response to auditor questions. Usually not considered conclusive unless it is corroborated.

22
Q

Responding to the risk assessment

A

The auditor shall formulate an approach to the assessed risks of material misstatement.

ISA 330 The objective of the auditor is to obtain sufficient appropriate audit evidence regarding the assessed risks of material misstatement, through designing and implementing appropriate responses to those risks.

23
Q

To respond appropriately to financial statement level risks, the auditor may do the following:

A

Assign more experienced personnel or those with specialized knowledge.
Evaluate the selection and application of accounting policies to identify earnings management or bias that may create a material misstatement.
Incorporate additional elements of unpredictability in the selection of audit procedures.

24
Q

What does the ISA 330 say aboutResponses to the risks of material misstatement at the assertion level

A

ISA 330 says that the auditor shall design and perform further audit procedures whose nature, timing and extent are based on and are responsive to the assessed risks of material misstatement at the assertion level

25
Q

What does Nature

A

‘Nature’ refers to the purpose and the type of test that is carried out, which include tests of controls and substantive tests.

26
Q

Define substantive procedures

A

Substantive procedures are audit procedures designed to detect material misstatements at the assertion level.
They consist of tests of details of classes of transactions, account balances and disclosures, and substantive analytical procedures.

27
Q

Substantive Procedures Related to the Financial Statement Closing Process

A

In addition, the auditor shall carry out the following substantive procedures:
Agreeing or reconciling the financial statements to the underlying accounting records
Examining material journal entries
Examining other adjustments made in preparing the financial statements

28
Q

Analytical procedures and Tests of details

A

Substantive procedures fall into two categories: analytical procedures and tests of details.
The auditor must determine when it is appropriate to use which type of substantive procedure.
Analytical procedures as substantive procedures tend to be appropriate for large volumes of predictable transactions (for example, wages and salaries).
Tests of detail may be appropriate to gain information about account balances for example, inventory or trade receivables.
In tests of details the auditor is concerned with overstatement or understatement of the line item in the financial statement.

29
Q

Timing of Substantive Procedures

A

Primarily as a practical matter, substantive procedures may be performed at an interim date
Only using interim testing procedures will increase the risk that misstatements existing at the period end will not be detected.
Performing audit procedures at an interim date may assist the auditor in identifying and resolving issues at an early stage of the audit.

30
Q

DocumentationThe auditor shall include in the audit documentation:

A

(a) The overall responses to address the assessed risks of material misstatement at the financial statement level, and the nature, timing, and extent of the further audit procedures performed;
(b) The linkage of those procedures with the assessed risks at the assertion level; and
(c) The results of the audit procedures, including the conclusions where these are not otherwise clear.