Chapter 03 - 3-1 C h a p t e r 3 CHAPTER 3 RISK ASSESSMENT...

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Unformatted text preview: 3-1 C h a p t e r 3 CHAPTER 3 RISK ASSESSMENT AND MATERIALITY 3-2 MATERIALITY AND AUDIT RISK Auditing standards (AU 213) provide the auditor with professional guidance in considering materiality and audit risk when planning and performing an audit in accordance with GAAS. The wording of the auditor's report recognizes both of these concepts by including the following terms: reasonable assurance in all material respects. 3-3 MATERIALITY Materiality is the magnitude of an omission or misstatement of accounting information that, in the 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 omission or misstatement. TYPES OF OMISSIONS OR MISSTATEMENTS: A difference between the amount, classification, or presentation of a reported financial statement element, account, or item and the amount, classification, or presentation that would have been reported under GAAP. The omission of a financial statement element, account, or item A financial statement disclosure that is not presented in accordance with GAAP. The omission of information required to be disclosed in accordance with GAAP. 3-4 STEPS IN APPLYING MATERIALITY Step 1: Establish a preliminary judgment about materiality. Quantitative Base (e.g., first year engagement, control weaknesses, management turnover, high market pressures, high fraud risk, abnormal bankruptcy risk) Step 2: Allocate the preliminary judgment about materiality to account balances or class-of transactions. Purpose: Helps the auditor evaluate if individual account balances are misstated. 3-5 STEPS IN APPLYING MATERIALITY (contd) Step 3: Estimate the likely misstatement and compare to materiality and tolerable misstatement. Likely misstatements: 3-6 STEPS IN APPLYING MATERIALITY (contd) Step 3 (contd): Account Level : Compare likely misstatements vs. If: Likely misstatements < TM If: Likely misstatements > TM Financial Statement Level : Compare likely misstatements vs. If: Likely misstatements < Materiality If: Likely misstatements > Materiality 3-7 2 MAJOR RISKS THE AUDITOR FACES: is the auditors exposure to loss or injury to professional practice from litigation, adverse publicity, or other events arising in connection with financial statements audited and reported on. is the risk that the auditor may issue an unqualified opinion on materially misstated financial statements. Financial statement level Individual account balance or class of transactions level 3-8 THE AUDIT RISK MODEL 3-9 The susceptibility of an assertion to material misstatement, assuming no related internal controls....
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This note was uploaded on 10/27/2011 for the course ACCT 4263 taught by Professor Chaplin during the Spring '11 term at Fairleigh Dickinson.

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Chapter 03 - 3-1 C h a p t e r 3 CHAPTER 3 RISK ASSESSMENT...

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