Chapter 6

Question 1

Auditors should plan and perform the audit with professional judgment and professional skepticism

Answer 1

True

Question 2

Professional Skepticism

Answer 2

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

Question 3

What should the auditor be alert to?

Answer 3

Audit evidence that contradicts other evidence
Conditions that may indicate possible fraud
Info that brings into question the reliability of documents and responses to questions
Circumstances that suggest additional audit procedures are needed in addition to those per ISA’s

Question 4

Professional judgment

Answer 4

application of relevant training, knowledge and experience in making informed decisions about the courses of action that are appropriate in the circumstances of the audit engagement

Question 5

Professional judgment should be exercised in the following areas:

Answer 5

1. Determining the level of audit risk and setting materiality
2. Determining the nature, timing and extent of audit procedures to be performed
3. Evaluating whether sufficient appropriate audit evidence has been obtained
4. Drawing conclusions based on the audit evidence obtained
5. Evaluating management’s judgments in applying the applicable financial reporting framework

Question 6

What does it mean for an auditor to adopt a risk based approach to auditing?

Answer 6

The audit must:

Direct audit testing to risky areas
Analyse the risk in the client’s business, transactions and systems that could lead to a material misstatement in the FS

Question 7

How is reasonable assurance that the FS are free from material misstatement obtained?

Answer 7

through sufficient appropriate audit evidence to reduce audit risk to an acceptably low level enabling the auditor to draw reasonable conclusions on which to base the auditor’s opinion

Question 8

Audit risk

Answer 8

the risk that the auditor expresses an inappropriate audit opinion when the FS are materially misstated.

Question 9

Components of audit risk

Answer 9

1. Dependent on the entity and is the risk of material misstatement arising in the FS (inherent and control risk)
2. Dependent on the auditor and is the risk the auditor will not detect any material misstatements in the FS (detection risk)

Question 10

Inherent risk

Answer 10

susceptibility of an assertion to a material misstatement, assuming no related controls are in place. It’s the natural risk that something might go wrong in the financial statements before any internal controls are considered.

Question 11

Scenario to help understand inherent risk

Answer 11

A company sells jewelry.

Jewelry is:

Small, high in value, and easy to steal.

Prone to fraud, misstatement, or loss.

👉 Even before any security cameras or inventory systems are in place, the risk of something going wrong (like theft or incorrect valuation) is already high.

That natural risk = inherent risk.

Question 12

Control risk

Answer 12

Control risk is the risk that a company’s internal controls (like policies, procedures, systems) will fail to detect or prevent a material misstatement in the financial statements.

Example:

Let’s say a company has a rule:

“Two people must sign every payment over $10,000.”

But if:

Staff don’t always follow this rule, or

The system lets one person override it…

👉 Then there’s control risk, because the control isn’t reliable.

Question 13

Detection risk

Answer 13

the risk that the auditor’s own procedures will fail to detect a material misstatement that exists in the financial statements.

Question 14

Components of detection risk

Answer 14

Sampling risk - the fact that the auditor does not and cannot examine all available evidence and performs audit procedures on a sample of items. So there is a risk that the conclusion obtained based on the sample tested is not appropriate for the population as a whole.

Non sampling risk - the risk that audit procedures do not detect material misstatement due to factors other than the sample tested.

Question 15

Factors that increase non sampling risk

Answer 15

auditor’s lack of experience
poor planning
financial constraints
time pressure
lack of industry knowledge
new client

Question 16

Aspects of materiality

Answer 16

Quantitive and qualitative

Question 17

the materiality level set by the auditor will always be a matter of judgment and will depend on the level of audit risk

Answer 17

True

Question 18

the higher the anticipated level of audit risk, the lower the value at which materiality will be set

Answer 18

True

Question 19

Impact of materiality

Answer 19

the nature, timing and extent of audit procedures to be performed. the lower level of materality = more work to be performed to ensure that audit risk is kept at an acceptably low level
whether to use sampling techniques
evaluation of the effect of misstatements in terms of:
- whether to seek adjustments in the FS
- the degree of any auditor’s report modification

Question 20

Benchmarks for materiality

Answer 20

Revenue 0.5 to 1
Total assets 1 to 2
Profit before tax 5 to 10

Question 21

Performance materiality

Answer 21

levels that are set lower than the materiality for FS as a whole. this means a lower threshold is applied during testing and the risk of misstatements which could add up to a material misstatement is reduced

Question 22

When would materiality need to be revised?

Answer 22

due to events that occur during the audit, new information or a change in the auditor’s understanding of the entity and its operations as a resulting of performing further audit procedures.

Question 23

Objective of the auditor per ISA315 Identifying and assessing the risks of material misstatement

Answer 23

identify and assess the risks of material misstatement whether due to fraud or error at the financial statement and assertion levels thereby providing a basis for designing and implementing responses to the assessed risks of material misstatement