Tutorial 3 Flashcards
What are the components of audit risk?
- inherent risk
- control risk
- detection risk
Audit Risk = Inherent risk x control risk x detection risk
What is business risk?
Business risk refers to the risk that an entity will not meet its objectives due to internal or external factors
What increases detection risk in a first-year audit?
Lack of prior knowledge of the entity, requiring more substantive procedures and verification of opening balances
How should auditors address inventiry help as a third party warehouse?
- attend inventory counts
- inspect third party auditor reports
- obtain written confirmation of inventory condition and quanitity
Why is WIP (work in progress) a risk in manufacturing audits?
- WIP is hard to value and can be misstated
- Auditors must verify material, labour and overhead costs
What is the audit response to capitalised refurbishment costs?
- review breakdown of costs
- check invoices and assess if they are capital or revenue in nature
- ensure proper treatment in financial statements
What risks arise from falling retail sales?
- going concern issues
- Potential inadequate disclosure
~ auditors must review cash flows and post-year-end sales
What’s the risk of redundant staff at year-end?
Liabilites may be understated if redundancy provisions are not recorded
What if customers are struggling to pay?
- receivables may be overstated
- irrecoverable debt allowance may be understated
- need for aged receivables analysis and cash receipts testing
Why is listing on a stock exchange an audit risk?
- increased risk of financial manipulation to meet listing criteria
~ required enhanced professional scepticism
How is materiality usually calculated?
- using benchmarks like 5% of profit before tax or 1% of total assets
- also consider performance materiality
What is materiality in auditing?
- misstatements are material if they could influence user decisions.
- includes both amount (quantity) and nature (quality)
What’s the formula for the payables payment period?
(Payables/Cost of Sales) x Number of Days
Is revenue growth a ratio?
no, its a trend
Is recalculation an analytical procedure?
No, it’s a substantive test
Is depreciation an analytical procedure?
No, it’s a substantive test
What is something that might cause an increase in gross profit margin?
overstated closing inventory, leading to understated cost of sales
What is performance materiality?
a threshold set below the overall materiality to reduce the chance of aggregate misstatements being material
What affects the reliability of audit evidence?
- source (external is more reliable)
- method (direct > indirect)
- documentation
- Originality of documents
Name 5 sampling methods under ISA 530
- random selection
- systematic selection
- haphazard selection
- block (sequence) sampling
- monetary unit sampling (for $)
What’s the auditor’s initial response to a misstatement in a sample?
determine if it’s an anomaly or representative of wider misstatement
What’s a true statement about sampling?
Deviations must be extrapolated to estimate the effect on the population
What should be considered before appointing an auditor’s expert?
- competence
- capability
- objectivity
- reliability of data
What must be agreed in writing with an auditor’s expert?
- scope of objectives
- responsibilities of each party
- inherent limitations
- deadline for the work
