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3603627940 - 5-1 Audit risk is the possibility that the...

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5-1 Audit risk is the possibility that the auditors may unknowingly fail to appropriately modify their opinion on financial statements that are materially misstated. It is composed of the possibility that (1) a material misstatement in an assertion about an account has occurred (inherent risk and control risk), and (2) the auditors do not detect the misstatement (detection risk). Detection risk is this second component, the risk that the auditors' procedures will lead them to conclude that a material misstatement does not exist in an assertion when in fact such misstatement does exist. All other factors held constant, audit risk increases with increases in detection risk. 5-2 The two components of the risk of material misstatement include inherent risk and control risk. Inherent risk is the risk of material misstatement of an assertion about an account, class of transaction, or disclosure without considering internal control, and control risk is the risk that internal control will fail to prevent or detect and correct the material misstatement. 5-3 Inherent risk refers to the possibility of a material misstatement occurring in an assertion assuming no related internal controls. Accordingly, since it exists independently of the auditors, the auditors cannot “reduce” inherent risk. Rather, they gather evidence that allows them to make an accurate assessment of the existing inherent risk. 5-6 The sufficiency of audit evidence is a matter of judgment on every audit, because there are no firm guidelines on the quantity of evidence necessary in a specific audit. The strength of the client's internal control, the inherent risk of the audit, the levels of materiality for the audit, and the existence of related-party transactions are among the factors influencing the auditors' judgment on the sufficiency of audit evidence. In addition, the quantity of evidence needed to support the auditors' opinion varies inversely with the quality of the available evidence. Appropriateness is the measure of the quality of audit evidence—both its relevance and reliability. The reliability of audit evidence depends on its source, rather than wholly on the judgment of the auditors. For example, documentary evidence created outside the client organization and transmitted directly to the auditors is normally of higher quality than documentary evidence created and held within the client organization.
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