a) Why do certain accounts have to be audited 100%?b) Why is materiality allocated only to those accounts that are sampled?c) Is any component of audit risk within the control of the auditor? Explain.d) How are the three risks that make up audit risk inter-related?
Subject: Auditing Homework Help
I have researched on-line and looked through several textbooks.
a) Why do certain accounts have to be audited 100%?
Accounts need to be audited so that other people can rely on that information and make correct decisions for investment, Further it helps the company management to get ensured that company is running profitable and according company is following the correct Accounting standards and policies. It helps the management to ensure that their accounts depict the true and fair view.
Auditing is done to protect the investors, shareholders, and banks to give reassurance that the information given to them by management is correct.
b) Why is materiality allocated only to those accounts that are sampled?
The Financial Accounting Standards Board (FASB), defines it in statement of
Financial Concepts No. 2., that ..” "materiality represents the magnitude of an
omission or misstatement of an item in a financial report that, in light of
surrounding circumstances, makes it probable that the judgment of a
reasonable person relying on the information would have been changed or
influenced by the inclusion or correction of the item".
The objective of an audit of financial statement is to enable the auditor to express an opinion whether the financial statements are prepared, in all material respects, in accordance with an identified financial reporting framework.
Items of little importance, which do not affect the judgment or conduct of a reasonable user, do not require auditor investigation. Conversely, Items of more importance that may matter such a judgment require auditor attention.
In designing the audit plan the auditor establishes an acceptable materiality level so as to detect quantitatively material misstatements. However, both the amount (quantity) and nature (quality) of misstatements need to be considered.
Normally only accounts that matter will be sampled for any type of checking, and thus materiality allocated only to those accounts that are sampled.
Secondly, an auditor for the sake of thoroughness will allocate materiality to everything he samples. Just to be sure that no account is ignored or given less weightage and thus escapes his view.
This is with respect to its planned nature, its timing, and its extent.
c) Is any component of audit risk within the control of the auditor? Explain.
Audit Risk has 3 components namely Inherent Risk, Control Risk and Detection Risk. Among this three components, Detection Risk is within the control of the auditor. This means that if the detection risk is high, the auditor is willing to accept a high detection risk, and will do less substantive testing as compared to a situation where the detection risk is lower. It is important to note that while detection risk can be modified at the auditor's discretion, inherent risk and control risk exist independently of the audit.
d) How are the three risks that make up audit risk inter-related?
The overall audit risk is the risk that the auditors give an inappropriate opinion on the financial statements. Audit risk has two elements, which are:
· The risk that financial statement contain a material misstatement, and
· The risk that auditors will fail to detect any material misstatements
Audit risk is a combination of inherent, control and detection risk.
The risk of material misstatement is subdivided into inherent risk and control risk, while failure of auditors to detect material misstatements is known as detection risk.
The three risks are interrelated in that if the inherent risk is high, it means that the business is susceptible to material misstatement, in which case, it may give rise to higher control risk and therefore a higher detection risk, since some material misstatements may get undetected in a poor control environment.