CHAPTER SA – 200 (R)
Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing
Q. What are Overall Objectives of an Independent Auditor?
Ans: According to SA 200 Revised The overall objectives of the auditor are:
(a) To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, resulting from either due to fraud or error, by this means enabling the auditor to express an opinion on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework; and
(b) To report on the financial statements, and communicate as required by the SAs, in accordance with the auditor’s findings.
Objective of Audit
 |
To obtain reasonable assurance To issue report About FS free from material MS
For example:- if the auditor is appointed under section 224 of the Companies Act, 1956 his objective will be to obtain reasonable assurance that whether Financial Statement of the Company are giving true and fair view or not. Financial statement are said to be giving true and fair view only when they are complying with requirements of companies Act 1956 like schedule VI, Companies Accounting Standard Rules, 2002, Schedule XIV, etc. Further Auditor has to report to members of the company in a manner specified in Section 227.
Q. What will be consequences if auditor fails to achieve his objective?
Ans: According to SA 200 if auditor is unable to obtain sufficient appropriate audit evidence to support his conclusions or we can say he is unable to obtain reasonable assurance he should either give a disclaimer of opinion or should withdraw from engagement if permitted by law.
For example:- If auditee has provided auditor Photocopies of books of accounts and evidence for audit as original books of accounts and evidence are ceased by Income tax department in such case auditor should either give a disclaimer of opinion that he is unable to form and express opinion on financial statement or he may decide to withdraw from engagement if permissible.
Q. Briefly explain the requirements of SA-200?
Ans: There are 5 requirements an auditor has to fulfill according to SA-200
- Ethical requirements relating to an audit of financial statements
- Requirement to have an attitude of Professional Skepticism
- Requirement to exercise Professional Judgment
- Requirement to obtain Sufficient and Appropriate Audit
evidence
- Requirement to follow all Standards of Auditing
Requirements
Of SA
200 Revised
 |
Ethical Professional Exercise Obtain follow all
Requirements Skepticism Professional sufficient & standards of
Judgment Appropriate auditing
Audit evidence
Q. What do you mean by Ethical Requirements?
Ans: Every member of the ICAI is subject to ethical behavior as described in CODE of ETHICS issued by ICAI. This code of ethics requires that auditor shall subject to following ethical requirements while discharging his duties as an independent Auditor.
Ethical Requirements
 |
Integrity Objectivity Professional confidentiality Professional
Competence behaviour
And due care
(a) Integrity:- means Honest behavior, Loyal attitude towards users of financial statements;
For example:- Mr. Sawan Kumar practicing CA has accepted audit of XY & Co. chartered accountants in which he is a Partner. It seems that the cardinal principle to achieve the objective is independence of the auditor. The interest as a partner will definitely override his objectivity as an auditor. Hence he must not accept the appointment.
(b) Objectivity:- This could be achieved only by having independence of mind and independence is appearance of an auditor.
(c) Professional competence and due care:= This could be achieved by acquainting himself with the latest developments in the field of accounting and auditing.
Example:- When it asked to Mr. Pawan, FCA why did you not followed AAS 30 external confirmation to test the balance sheet of creditors. He simply said I was unaware that any such pronouncement is issued by the ICAI. This means he is lacking in professional competence.
(d) Confidentiality:- Should keep all information received from client and should not disclose the same unless it is not legal or professional requirement to do so.
For example Mr. Mihir is the auditor of Tayal Limited, the manufacturers of packing boxes. For his audit purpose he obtained the knowledge of this business i.e. their customers, suppliers, technical experts etc. He helped his brother in setting up his business. This is violation of ethical standards of confidentiality.
(e) Professional behavior:- There must be professional relation between auditor and auditee. There must not be any other interest to override the objectivity.
For example:- Mr. Rohit Roy, the owner of a small company, asked F&G chartered Accountants to conduct an audit with a condition that audit must be completed within two weeks so that profit and loss account and balance sheet are submitted to bank for loan. F&G accepted the engagement and agreed to provide audit report in time. Mr. Roy agreed to pay fee to F&G. of Rs. 20,000, if loan is sanctioned. This is against the professional behavior.
Further SQC-1 and SA 220 have suggested ways and means to achieve such independence and objectivity of Auditor.
Q. What do you mean by attitude of Professional Skepticism?
Ans: Professional Skepticism is nothing but an attitude of the auditor which requires auditor’s alertness towards information provided to him from the auditee. It should not be understood as doubt but should be taken as vigilant attitude. For example auditor should always be alert towards.
# Audit evidence provided by client that contradicts other audit evidence obtained by the auditor himself
# Information that brings into question the reliability of documents and responses to inquiries to be used as audit evidence.
# Conditions that may indicate possible fraud;
# Circumstances that suggest the need for audit procedures in addition to those required by the SAs.
By adopting such an attitude auditor may minimize the risk of
# Overlooking unusual circumstances.
# Over generalizing when drawing conclusions from audit observations.
# Using inappropriate assumptions in determining the nature, timing, and extent of the audit procedures and evaluating the results thereof.
For example:- The audited financial statements of shiv Limited show sales of Rs. 100 crores for the year 2004-2005. Mr. A’s (auditor of shiv Limited) article clerk stated that the sales are properly recorded. Subsequently, it was found that goods to the extent of Rs. 8,50,000 were sent on approval but included in the sales. It means no professional skepticism is exercised during the audit.
Does it mean that auditor should place doubt over each record, information or document provided by the client to him?
Answer to this question is addressed in SA 200 revised according to it “auditor may accept records and documents as genuine unless the auditor has reason to believe the contrary. Nevertheless, the auditor is required to consider the reliability of information to be used as audit evidence in cases of doubt about the reliability of information or indications of possible fraud (for example, if conditions identified during the audit cause the auditor to believe that a document may not be authentic or that terms in a document may have been satisfied), the SAs reuire that the auditor investigate further and determine what modifications or additions to audit procedures are necessary to resolve the matter. Even if a belief that management and those charged with governance are honest and have integrity does not relieve the auditor of the need to maintain professional skepticism or allow the auditor to be satisfied with less-than-pervasive audit evidence when obtaining reasonable assurance.
For example: As Mr. A is auditor of Y Ltd from last 3 years and every year after due examination he found financial statement true and fair found management as honest and ethical does not mean that he should have a blind faith in audit of current year over all the information provided by them.
Q. What is requirement of professional Judgment as per SA 200 (Revised)
Ans: Professional judgment means a judgment taken by the auditor out of his professional experience in a audit situation. According to SA 200 revised Professional judgment is essential to the proper conduct of an audit. This is because interpretation of relevant ethical requirements and the SAs and the informed decisions required throughout the audit cannot be made without the application of relevant knowledge and experience to the facts and circumstances. Professional judgment is necessary in particular regarding decisions about:
# Materiality and audit risk
# The nature, timing and extent of audit procedures
# Evaluating whether sufficient appropriate audit evidence has been obtained.
# The evaluation of management’s judgments in applying the entity’s applicable financial reporting framework.
# The drawing of conclusions based on the audit evidence obtained.
It is required that auditors professional judgment should be reasonable and rational. Consultation on difficult or contentions matters during the course of the audit, both within the engagement team and between the engagement team and others at the appropriate level within or outside the firm, assist the auditor in making informed and reasonable judgments. Further the auditor is required to prepare audit documentation relating to such reasonable professional judgments.
Q. Explain the requirements of sufficient and appropriate Audit evidence?
According to SA 200 revised “Audit evidence is necessary to support the
auditor’s opinion and report.” It is cumulative in nature and is primarily
obtained from audit procedures performed during the course of the audit.
It may, however, also include information obtained from other sources
like experience from previous audit, information provided and prepared
by employees, management and those charged with governance of the
auditee. The sufficiency and appropriateness of audit evidence are
interrelated. Sufficiency is the measure of the quantity of audit evidence
and appropriateness means quality of Audit evidence (posers are given in
previous chapter). Whether sufficient appropriate audit evidence has
been obtained to reduce audit risk to an acceptably low level, and
thereby the auditor to draw reasonable conclusions on which to base the
auditor’s opinion, is a matter of professional judgment.
Q. Does the auditor expected to , reduce audit risk to zero and can obtain absolute assurance that the financial statements are free from material misstatement due to fraud or error?
The answer is in negative. According to SA 200 Revised The auditor is not expected to, and cannot, reduce audit risk to zero and cannot therefore obtain absolute
Assurance that the financial statements are free from material misstatement due to fraud or error. This is because there are inherent limitations of an audit. Inherent limitations means limitations which can be overcome and which are with the subjects since the inception or evolution of the subject. Following are contributors to inherent limitations to audit
1. Most of the audit evidence on which the auditor draws conclusions and bases the auditor’s opinion being persuasive rather than conclusive.
2. the nature of financial reporting :- If in financial statement some items are valued only on the basis of managements estimates which are highly subjective in those case audit procedures are insufficient to find the reasonableness of such judgments.
3. the nature of audit procedures :- For examples fraud may involve sophisticated and carefully organized schemes designed to conceal it. Therefore, audit procedures used to gather audit evidence ay be ineffective for detecting an intentional misstatement that involves, for example, collusion to falsify documentation which may cause the auditor to believe that audit evidence is valid when it is not. The auditor is neither trained as nor expected to be expert in the authentication of documents. Further auditor has no legal power to search forcefully, which may be necessary for such an investigation.
4. the need for the audit to be conducted within a reasonable period of time and at a reasonable cost.
Because of the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of the financial statements may not be detected, even though the audit is properly planned and performed in accordance with SAs. According, the subsequent discovery of a material misstatement of the financial statements resulting from fraud or error does not by itself indicate a failure to conduct an audit in accordance with SAs.
Inherent Limitations at a glance :-
- Persuasive rather than conclusive evidence
- The nature of financial reporting
- The nature of audit procedures
- To complete audit in reasonable period of time
and at a reasonable cost.
Q. What are the requirements of SA 200 revised to Conduct of an Audit in Accordance with SAs?
Auditor is required to follow SAs during his audit. He is required to
determine the nature timing and extent of his audit procedures according to requirements of SAs.
According to SA 200 Revised The Requirements of the SAs are designed to enable the auditor to achieve the objectives specified in the SAs, and hereby the overall objectives of the auditors. SA 230 (Revised) establishes documentation requirements in those exceptional circumstances where the auditors departs from a relevant requirement. If there is any conflict between the law with which the auditee is subject to and SA, the law would prevails.
Q. What is Scope of an audit of Financial Statements?
Scope of audit means an area of work for the auditor. Scope of audit is primarily determined by following factors
- Terms of engagement of the auditor
- Requirements of legislation
- Standards on Auditing and other guidance by ICAI.
It should be noted that terms of engagement can not an verriding effect over the scope decided by the legislation or SAs.
For Example :- BOD of RESPECTIVE LTD. appointed Mr. Y as their auditor under section 224 of Companies Act, 1956 on the following terms:
1. You are requested to conduct physical verification of stock as it is recently done by our staff.
2. You will not be allowed to verify the section 301 register and fixed asset register.
In this case Management of the entity can not decide the terms of
engagement of auditor contrary to the statue under which the
appointment of auditor done or scope of audit determined by the
ICAI through its various statements made mandatory to follow by
its member (i.e. Auditor). Further, Constraints on the scope of the
audit of financial statements that impair he auditor’s ability to
express an unqualified opinion on such financial statements
should be set out in report, and a qualified opinion or disclaimer
of opinion should be expressed, as appropriate.
Following is not within the Scope of auditor it is within the scope of
management and those charged with governance:-
1. Maintenance of books of accounts and records
2. Formulation and Implementation of Internal Control System
3. Selection and application of accounting policies
4. Estimation of accounting estimates
5. Preparation and presentation of financial statement.
It is important to note that Auditors opinion is not an assurance about the
further viability of the entity and neither it is an assurance about the
future efficiency and effectiveness of the management. It is just an
opinion about financial position up to the date ad period covered under
audit.
Example :- Management Director of Muskan Ltd. is of opinion
that our financial statements are ready for the approval by the
shareholders in AGM as auditor was unable to find the trial
balance difference of Rs. 100000. Hence auditor should be held
responsible for all this delay. In this case responsibility for
preparation and presentation of FS is that the management of the
enterprise. The audit of the financial statements does not relieve
management of its responsibilities.
Poser- Mr. X a practicing CA accepted the audit of PQR Ltd. Where
his wife is managing director. Comment.
(Hint:- Accepting the audit is against the principle ethical requirements
given in SA-@000 R. Further clause (1) of part II of the second schedule
of the CA Act defines under council general guidelines that it will be a
professional miscount see code of ethics of the same publication for
details)
Poser- Mr. hurry worry the owner of a small company, asked Lazy
& Co Chartered Accountants, to conduct an audit within one week
so that financial statement will be ready for the income tax return
as the date of filing return is near. Lazy & Co. demanded for
double fee as compare to previous year and accepted the
engagement. Comment.
(Hint:- Accepting the audit on double fee to complete it in a hurry by
itself shows that Lazy & Co. created an interest against their duty hence
it is against the principles Ethical Requirements under SA – 200 Revised)
Poser- On subsequent discovery of misstatement regarding non
provision of Impairment Loss auditor gave his clarification that “
I was not aware that AS-28 made applicable from this year” Next
time we will definitely be conscious about the same. Comment
Poser- Mr. Mahesh the auditor engaged recently qualified
Chartered Accountant as paid assistance to conduct the audit of
Bharat Starch Limited. Mr. Mahesh singed the audit report in
anticipation that the other CA must have conducted audit as per
auditing as per auditing practices as he is recently assed out his
ca final exams conducted according to revised SAs. Later on
material misstatement was found in financial statement. Mr.
Mahesh claims that he is not responsible because he engaged
qualified chartered accountant for the purpose of audit.
Hint:- Auditor continues to be liable for his opinion on financial
statement irrespective of the fact that he had relied on work performed
by other it is irrelevant whether the person is CA or not. Althogh if the
other person is CA the extent of evaluation of the work performed by him
will not more extensive, but in any case blind faith on anyone’s work is
not permitted as auditor shall have an attitude of PROFESSIONAL
SKEPTICISM.)
Poser- A senior assistance of PQR Co. CA drew up his audit
programme without evaluating internal controls of Titu Ltd. When
the partner asked him for the reason, he stated that the controls
were developed by the general manager (finance) of titu ltd. who
is also a ca and had written a few books on “internal controls”
and therefore there was no need to review the said area.
Hint:_ appropriate designing of internal control is not itself a guarantee
that the same is applied at full extent. Auditor shall apply test of
control before relying on the same and should assess the audit risk also
as required under SA 200 Revised
Poser- Managing Director of M & M ltd. is of opinion that our
financial statements are not ready for the approval by the
shareholders in AGM as auditors was unable to find to find the
trial balance difference of Rs. 100000. Hence auditor should be
held responsible for all this delay.
Hint:- As per SA-200 Revised, responsibility to prepare and present
books of accounts is that of management. Auditor has only objective to
form to form and express opinion after due verification.
Poser- As auditor signed financial statements and issued report,
he is jointly responsible along with the management for the
financial statements. Is it true?
Hint: Auditor is responsible for financial statement to the extent
explanation and information provided to him by the management for his
audit. Due to inherent limitations of audit, there may be some material
misstatement remained undiscovered. Hence auditor is not to give
absolute assurance about the financial statement. On the other hand
management is absolutely responsible for the financial statements.
CHAPTER 7
SA-220 (R)
Quality Control for an Audit of Financial Statements.
Q. What factors should be considered for incorporating quality control in the audit work?
Ans: The audit should implement quality control policies to ensure all audits are conducted in accordance with Auditing and Assurance Standards. The following essential factors should be considered for incorporating quality control in audit work
a) Professional Requirements: Adherence to basic principles such as independence, integrity, objectivity, confidentiality, etc.
b) Skills and competence: Audit personnel should have required degree of skill and competence.
c) Assignment: Audit work should be assigned only to competent personnel.
D) Delegation: There is to be sufficient, supervision and review of work as all levels.
e) Consultation: Whenever necessary, consultancy within and outside the firm with experts.
f) Acceptance and Retention of clients: Evaluation of prospective client and review of existing client should be done on an ongoing basis.
g) Monitoring: Continued adequacy and operational effectiveness of quality control policies and procedures should be monitored.
The firm’s quality control policies and procedures should be effectively
communicated to its personnel.
Q. “Quality control is not confined to audit alone, it extends to individual audits also.” Explain.
Ans. Quality control policies and procedures should be implemented at both the level of audit firm and on individual audits (para 2 of SA220). The quality control policies application to firm should be implemented for individual audits to the extent applicable. The audit work should be delegated to assistants with professional competence and should be appropriately directed and supervised. The work of assistants should also be reviwed.
Direction
Audit assistants should be informed of the nature of business and possible accounting or auditing problems. They should be explained of what is expected of them and how to achieve it. They should be informed about the importance of audit programme, time budgets and overall audit plan.
Supervision
Persons carrying out supervisory responsibilities should
· Monitor the progress of audit;
· Become informed of and address significant accounting and auditing questions raised during the audit;
· Resolve the differences of professional judgment and conside the level of consultation as appropriate.
Review
Review of work of audit staff should be carried out to ensure that the
· Work has been performed as per the audit programme;
· Work performed has been adequately documented;
· All significant matters have been resolved or are reflected in audit conclusion;
· Objectives of the audit procedures have been achieved; and
· Conclusions expressed are consistent with the work performed.
The following matters need to be reviewed on a timely basis
· Overall audit and the audit programme;
· Assessment of inherent and control risks well as any modifications made to the overall audit plan and programme;
· Documentation of the audit evidence obtained from substantive procedures and the conclusions drawn there from;
Any proposed adjustments to the financial statements arising out of auditor’s examination and observations.
=============================================
CHAPTER
SA-260 (R)
Communication with those charged with Governance
Q. What do you mean by Those Charged with Governance?
Ans: According to SA 260 Those charged with governance refers to person(s) or organization(s) (e.g. a corporate trustee) with responsibility for overseeing the strategic direction of the entity and obligations related to the accountability of the entity. This includes overseeing the financial reporting process. For some entities those charged with governance may include management personnel, for example, executive members of a governance board of a private or public sector undertakings or an owner-manager. In some cases, those charged with governance are responsible for approving the entity’s financial statements (in other cases management has this responsibility). On the other hand the word management refers to person(s) with executive responsibility for the conduct of the entity’s operations.
Q. What is Objective of auditor to communicate with those charged with governance?
Ans: According to SA-260- the objectives of the auditor are to:
(a) Communicate clearly with those charged with governance
# the responsibilities of the auditor in relation to the financial statement audit;
# and an overview of the planned scope and timing of the audit;
(b) Obtain information relevant to the audit from those charged with governance;
(c) Provide timely significant observations arising from the audit relevant to oversee the financial reporting process for those charged with governance.
(d) Promote effective two-way communication between the auditor and those charged with governance.
Q. What matters are required to be communicated?
Ans: 1. The auditor’s responsibilities in Relation to the financial
Statement Audit:
The auditor shall communicate that he is responsible for forming and expressing an opinion on the financial statements that have been prepared by management with the oversight of those charged with governance and the audit of the financial statements does not relieve management or those charged with governance of their responsibilities.
2. Planned Sce and Timing of the Audit:
The auditor shall communicate an overview of the planned scope and timing of the audit.
3. Significant Findings from the Audit:
a) The auditor shall communicate his views about significant qualitative aspects of the entity’s accounting practices, including accounting policies, accounting estimates and financial statement disclosures.
b) Significant difficulties, if any, encounted during the audit;
c) Unless all of those charged with governance are involved in managing the entity:
(i) Material weaknesses, if any, in the design, implementation or operating effectiveness of internal control that have come to the auditor’s attention and have been communicated to management as required by SA 315 or SA 330;
(ii) Significant matters, if any, arising from the audit that were discussed, or subject to correspondence with management; and
(iii) Written representations the auditor is requesting; and
d) Other matters, if any, arising from the audit that, in the auditor’s professional judgment, are significant to the oversight of the financial process.
In case of Listed entities what are additional communication auditor is required to do?
According to SA 260: In the case of listed entities, the auditor shall communicate with those charged with governance that the engagement team and others in the firm as appropriate, the firm and, when applicable, network firms have complied with relevant ethical requirements regarding independence; and all relationships and other matters between the firm, network firms, and the entity that, in the auditor’s professional judgment, may reasonably be thought to bear on independence. This shall include total fees charged during the period covered by the financial statements for audit and non audit services provided by the firm and network firms to the entity and components controlled by the entity. These fees shall be allocated to categories that are appropriate to assist those charged with governance in assessing the effect of services on the independence of the auditor; and the related safeguards that have been applied to eliminate identified threats to independence or reduce them to an acceptable level.
What other consideration are required under this SA 260
1. The auditor shall communicate in writing with those charged with governance when, in the auditor’s professional judgment, oral communication would not be adequate. Where matters required by this SA to be communicated are communicated orally, the auditor shall document them, and when and to whom they were communicated. Where matters have been communicated in writing, the auditor shall retain a copy of the communication as part of the audit documentation.
2. The auditor shall communicate with those charged with governance on a timely basis.
3. The auditor shall evaluate whether the two-way communication between the auditor and those charged with governance has been adequate for the purpose of the audit. Inadequacy may lead auditor to suspicion about existence of misstatement.
=============================================
Chapter
SA-265 (N)
Communicating Deficiencies In Internal Control To Those Charged With Governance And Management
Note:- Students shall note that usually this kind of communication is known as “Letter of Weakness”
What should be the objective of Auditor according to this SA265
According to SA 265 – The objective of the auditors is to communicate
appropriately to those charged with governance and management
deficiencies in internal control that the auditors has identified during the
audit and that, in the auditor’s professional judgment, are sufficient
importance to merit respective attentions.
What do you mean by deficiency in Internal Control
According to SA 265 – Deficiency control This exists when a control is
designed, implemented or operated in such a way that it is either Unable
to prevent, or detect and correct, misstatements in the financial
statements on a timely basis; or
it is missing.
What are the requirements under this SA265?
According to SA 265 The auditor shall determine whether, he has
identified one or more deficiencies in internal control. If yes he shall
determine whether, individually or in combination, they constitute
significant deficiencies. If auditor concludes that deficiencies are
significant, he shall communicate in writing significant deficiencies in
internal control identified during the audit to management and those
charged with governance on a timely basis. It is further explained in SA
265 that the auditors shall give full description of the deficiencies and an
explanation of their potential effects so that to enable those charges with
governance and management to understand the context of the
communication. Further it is required that auditor shall explain that the
purpose of the audit was for the auditor to express an opinion on the
financial statements; and the audit included consideration of internal
control relevant to the preparation of the financial statements in order to
design audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of
internal control.
===========================================
CHAPTER
SA – 320 (Revised)
Materiality in planning and performing an Audit
Q. What is Audit Materiality and What is relation between Materiality and Audit Risk?
Any item or information will said to be material if misstatement of which
can influence the users decision. A misstatements, including omissions,
are considered t be material if they, individually or in the aggregate,
could reasonably be expected to influence the economic decisions of
users taken on the basis of the financial statements;
Q How auditors judges the materiality factor?
Judgments about materiality are made in the light of surrounding
circumstances, and are affected by the size or nature of a misstatement,
or a combination of both. The auditor’s determination of materiality is a
matter of professional judgment.
Q. When auditors shall apply the concept of materiality?
The concept of materiality is applied by the auditors both in planning and
performing the audit, and in evaluating the effect of identified
misstatements on the audit and of uncorrected misstatements, if any, on
the financial statements and in forming the opinion in the auditor’s
report.
Q. Why auditor’s shall consider the materiality at the time of
planning?
In planning the audit, the auditor’s makes judgments about the size of
misstatements that will be considered material These judgments provide
a basis for:
(a) Determining the nature, timing and extent of risk procedures;
(b) Identifying and assessing the risk of material misstatement; and
(c) Determining the nature, timing and extent of further audit procedures.
For examples:- An assistant of X and Co., Chartered Accountants
detected an error of Rs. 5 per interest payment, which recurred a
number of times. The General Manager (Finance) of T Ltd advised
him no to request for passing any adjustment entry as
individually the errors were of very small amounts. The Company
had 2000 Deposit Accounts and interest was paid quarterly. In
the case aggregate of misstatement shall be taken into account.
Auditor shall request management to adjustment the same
otherwise he has to quality the report.
Q. what is performance Materiality?
According to SA 320 Revised Performance Materiality means the amount or amounts set by the auditor at less than materiality for the financial statements as whole to reduce to an appropriately low level the probability that the aggregate of uncorrected and undetected misstatements exceeds materiality for the financial statements as a whole. If applicable, performance materiality also refers to the amount or an amounts set by the auditors at less than the materiality levels or levels for particular classes of transactions, account balances or disclosures.
===========================================
CHAPTER 17
SA-330 (Newly issued)
The Auditor’s Responses to Assessed Riska
Auditor’s Duty
The auditor is to obtain sufficient appropriate audit evidence about the assessed risks of material misstatement, through designing and implementing appropriate responses to those risks.
Lets revise what learnt in (SA-200 Revised) The risk that the financial statements are materially misstated prior to audit is known as Audit Risk. This consists of two components, ROMS and Detection Risk. ROMS – risk of Miaterial Misstatements consist further of Inherent Risk and Control Risk. Hence we can conclude that
AUDIT RISK = ROMS X DETECTION RISK
AUDIT RISK = (INHERENT RISK X DETECTION RISK) X CONTROL RISK
(I) Inherent risk:- The susceptibility of an assertion about a class of transaction account balance or disclosure to a misstatement that could be material, either individually or when aggregated with other misstatements, before consideration of any related controls.
Hence we can conclude that if we assume in entity under Audit that there is no internal control, the risk of fraud or error for each item of the balance sheet and profit and loss account is known as inherent risk at assertion level.
Poser- Which one of the following class of transactions contains more inherent risk:
1. Daily sale and purchase of shares in bulk in an investment company.
2. Daily sale and purchase of petrol from petrol pump.
If we assume there is no internal control over these transactions in both of these business than chances of misstatement are more in recording sale of shares due to its fluctuating price and Intangible nature on the other hand petrol prices are governed by regulatory authorities, hence chances of recording wrong price in sales price is difficult. Hence we can say sales of share and purchase in bulk is more susceptible to misstatement, hence, contains more inherent risk.
(ii) Control risk:- The risk that a misstatement that could occur in an assertion about a class of transaction, account balance or disclosure and that could be material, either individually or when aggregated with other misstatements, will not be prevented, or detected and corrected, on a timely basis by the entity’s internal control.
Hence we can conclude that after assessment of controls adopted by the management to prevent misstatement, auditor feels that still misstatement can be there despite of controls it is known as control risk.
Poser:- Which business contains more control risk?
Trivedi International Ltd has three persons in accounts department One is the cashier, who only receives and pays cash. Cashier can not pay unless it is passed by a second person. The third person accounts for it. The first and third person sit with the second one at the close everyday and tally the cash in the books and cash in hand.
Maheshwari Ltd has one employee who receives and pays cash and records the same on computer online as the computerized books cash balance always tallies with cash in hand, management never physically verifies the cash.
Q. What is Detection risk?
Ans: According to SA-200(revised) The risk that the procedures performed by the auditor to reduce audit risk to an acceptably low level will not detect a misstatement that exists and that could be material, either individually or when aggregated with other misstatements.
Hence, we can conclude that after assessment of risk of misstatement auditor determines the nature timing and extent of the audit procedure to be performed. If still auditor feels that there may be chances that despite of his audit procedures some misstatements may remain undiscovered it is known as Detection Risk.
Poser- In which case detection risk is more?
Case – 1: Mr. Rambharose the Auditor did not want to check 100% debtors account he selected the accounts randomly and applied audit procedures on the same.
Case – 2: Mr. Karmyogi the Auditor did not want to check 100% debtors account he selected all material balances and applied exhaustive audit procedures and in case of immaterial items he applied audit sampling.
In case – 1 neither the auditor specially designed his audit procedure to material items nor he assured himself about verification of all material accounts. Hence in case-1 there are chances of not detecting a misstatement in material item.
Q. Why and how to assess Audit Risk?
Ans: SA-330 (Revised) Cast duty on auditor regarding audit risk as “The auditor should use professional judgment to assess audit risk and to design audit procedures to ensure that it is reduced to an acceptably low level”. Hence it is professional duty of the auditor to first assess the audit risk and during his audit always trys to make it sure that the audit risk reduced to an acceptably low level by modifying the audit procedures. The order of assessing the various components of audit risk is as follows
Step 1: Assess inherent Risk
# At the level of financial statement
# Projecting the above at the level of individual balances
and close of transactions
Step 2: Preliminary assessment of control risk.
Step 3: Applying substantive procedures and also performing test of
Control
Step 4: If test of control supports preliminary assessment of control
risk applied substantive procedures are sufficient for audit.
Step 5: If test of control is contrary to the preliminary assessment
of control risk, in such a case modification in substantive
procedure is a must.
Q. How an Auditor give response to assessed risk of Misstatement?
Ans: As we know that
Audit Risk = Risk of Misstatement x Detection risk
Audit risk = (Inherent risk x Control risk) x Detection risk
AR = IR x CR x DR
It is clear from the above equation that total audit risk is multiplicational effect of all risks. We can have another view to this equation that Risk that an auditor will issue an appropriate opinion when material misstatement is present in financial statement is depend on
1. How risky the nature and complexity business is (i.e. inherent risk) and
2. How management is addressing such risk by applying the internal control (i.e. control risk) and
3. How effective are the substantive procedures of auditor (i.e. detection risk).
Poser: Auditor found that the nature of the business is tii complex yet the internal control is not appropriately designed and in operation. What shall be his response to the Detection risk.
As the business is too complex if auditor assume that there is no internal control he can imagine that the inherent risk is high.
Against this imagined high inherent risk, this is also a fact that business is not having proper internal control hence auditor will feel that the control risk is also high.
As both inherent and control risks are high the multiplication effect of both risks will be HIGHEST”. In this situation if auditor wish to minimize the total audit risk he is bound to apply such in-depth substantive procedure so that the detection risk shall be at lowest. Now, this answer can be presented in following equation.
Audit risk = (IR x CR) x DR
= (High x high) x lowest
= Highest x Lowest
= Medium
Hence, despite of highest cumulative effect of inherent and control risk auditor is managed to keep the total audit risk at MEDIUM with the help of his in-depth substantive procedure.
From the above discussion we can understand that combined effect of IR and CR should be inversely proportional to DR if auditor wish to set its overall audit risk optimized.
As interpretation of SA-330 we can conclude that “There is an inverse relationship between detection risk and the combined level of inherent and control risks.” For example, when inherent and control risks are high, acceptable detection risk needs to be low to reduce audit risk to an acceptably low level. On the other hand, when inherent and control risks are low, an auditor can accept a higher detection risk and still reduce audit risk to an acceptably low level. Refer to the Appendix to this SA for illustration of the interrelationship of the components of audit risk.
Evaluating the Sufficiency and Appropriateness of Audit Evidence
Based on the audit procedures performed and the audit evidence obtained, the auditor shall evaluate before the conclusion of the audit whether the assessments of the risks of material misstatement at the assertion level remain appropriate. The auditor shall conclude whether sufficient appropriate audit evidence has been obtained. In forming an opinion, the auditor shall consider all relevant audit evidence, regardless of whether it appears to corroborate or to contradict the assertions in the financial statements. If the auditor has not obtained sufficient appropriate audit evidence as to a material financial statement assertion, the auditor shall attempt to obtain further audit evidence. If the auditor is unable to obtain sufficient appropriate audit evidence the auditor shall express a qualified opinion or a disclaimer of opinion.
5.0 Documentation
The auditor shall document:
(a) The overall responses to address the assessed risks of material misstatement at the financial statement level, and the nature, timing and extent of the further audit procedures performed;
(b) The linkage of those procedures with the assessed risks at the assertion level; and (c) The results of the audit procedures, including the conclusions where these are not otherwise clear.
If the auditor plans to use the audit evidence about the operating effectiveness of controls obtained in previous audits, the auditor shall document the conclusions reached about relying on such controls that were tested in a previous audit. The auditor’s documentation shall demonstrate that the financial statements agree or reconcile with the underlying accounting records.
No comments:
Post a Comment