Topic 3 Flashcards
(17 cards)
The main stages of an audit are:
risk assessment phase
risk response phase
reporting phase.
risk assessment phase
Auditor must plan the audit to reduce audit risk to an acceptably low level.
Audit risk is the risk that an auditor expresses an inappropriate audit opinion when a financial report is materially misstated.
Risk response phase:
Risk response involves detailed tests of controls and substantive testing of transactions and accounts.
Concluding and reporting on an audit:
Reporting involves evaluating results of detailed testing in light of the auditor’s understanding of their client and forming an opinion on the truth and fairness of the client’s financial report.
According to ASA 315; ISA 315, gaining an understanding of the client is necessary to assess the risk that the financial report contains a material misstatement due to:
The nature of the client’s business.
The industry in which the client operates.
The level of competition within that industry.
The client’s customers and suppliers.
The regulatory environment in which the client operates.
Stages of gaining an understanding of the client:
entity level
industry level
economy level.
Entity level:
major suppliers major customers international transactions capacity to adapt to changes in technology warranties and discounts client reputation and operations client relations with employees
industry level
level of competition client reputation level of government support level of government regulation level of demand for client goods/services.
economy level.
How do overall economic conditions affect client?
interest rate changes
financial crises
shareholder expectations of increasing profits in good times.
Fraud risk
Auditor must asses risk of material misstatement due to fraud (ASA 240; ISA 240).
Auditor adopts attitude of professional scepticism:
Maintaining an independent questioning mind.
Search thoroughly for corroborating evidence to validate information provided by the client.
Don’t just rely on past experience with client.
Indicators (red flags) of possible fraud
high turnover of key employees key finance personnel refusing to take leave overly dominant management poor compensation practices inadequate training programs complex business structure
In assessing the risk of fraud, an auditor will consider
Incentives and pressures to commit a fraud:
Opportunities to perpetrate a fraud:
Attitudes and rationalisation to justify a fraud:
Going concern
Auditor must consider whether it is appropriate to assume that client will remain a going concern. Remaining a going concern is the responsibility of client governance. Auditor must obtain sufficient appropriate evidence to assess validity of going concern assumption. Auditor makes professional judgement about going concern risk, based on risk indicators
Going concern risk — indicators:
significant debt/equity ratio
long term loans due, no alternative finance
prolonged losses, inability to pay debts when due
loss of significant customer,
supplier problems
If going concern is in doubt, undertake additional audit procedures.
Assess cash flow, revenues, expenses, interim results.
Review debt contracts, board meeting minutes.
Discussions with client management and lawyers.
Auditor should also consider factors that mitigate (reduce) going concern risk.
Letter of guarantee from parent company.
Availability of assets or segment of business for sale for cash.
Ability to raise funds through share issue or borrowing.
Corporate governance
Corporate governance is the rules, systems and processes within companies used to guide and control activities.
