AUDIT

PLANNING
Materiality
Information is material if its omission or
misstatement could influence the
economic decision of users taken on the
basis of the financial statements.
Materiality
Materiality may be viewed as:
The largest amount of misstatement that the
auditor could tolerate in the financial statements,
The smallest aggregate amount that could
misstate the financial statements

Materiality is a matter of professional judgement and

necessarily involves quantitative factors (amount of
the item) and qualitative factors
(nature of misstatement).
Materiality
Uses of materiality
Planning stage to determine the scope
of audit procedures.
Completion stage to evaluate the
effect of misstatement on the financial
statements
Materiality levels:
Step 1 Determining the Overall Materiality-
Financial Statement Level

Is the smallest aggregate level that could

misstate/distort any of the financial statements.
A common method of estimating materiality at the
financial statement level is to multiply a statement
base (total assets, sales or net income) by a certain
percentage
Materiality levels:
Step 2 Determine the tolerable misstatement-
Account Balance Level

Determine the audit procedures that will be applied to

specific accounts.
The allocated materiality to an account is called the
tolerable misstatement. This is also known as
the performance materiality.
Materiality levels:
Step 3 Compare the aggregate amount of
uncorrected misstatements with the overall
materiality

To determine whether or not the financial statements

are materially misstated.
 Determining the Overall Materiality-
Financial Statement Level

Planning
Stage Determine the tolerable misstatement-
Account Balance Level

Perform audit procedures

Completion Compare the aggregate amount of

uncorrected misstatements with the
Stage overall materiality
Audit Risk
refers to the risk that the auditor gives
an inappropriate audit opinion on the
financial statements.
Inherent Risk
is the susceptibility of an account
balance or class of transactions to a
material misstatement assuming that
there were no related internal controls.
Control Risk
is the risk that material misstatement
that could occur in an account balance
or class of transactions will not be
prevented or detected and corrected
on a timely basis by accounting and
internal control systems.
Detection Risk
is the risk that an auditors substantive
procedure will not detect a material
misstatement.
Steps in using the audit risk
model
Step 1 Set the desired level of Audit Risk
Step 2 Assess the level of Inherent Risk
Step 3 Assess the level of Control Risk
Step 4 Determine the acceptable Level of
Detection Risk
Step 5 Design Substantive Tests
Relationship of Inherent Risk, Control Risk
Detection Risk to the Overall Audit Risk

Inherent Risk-Detection Risk (Inverse

Relationship)
Control Risk-Detection Risk (Inverse Relationship)

Inherent Risk Detection Risk *and vice versa

Control Risk Detection Risk *and vice versa

Risk Assessment Procedure
The procedures performed by auditors to obtain
understanding of the entity and its environment
including its internal control
a. Inquiries of management and others within
the entity
b. Analytical procedures
c. Observation and inspection
Analytical
Procedures
Analysis of significant ratios and trends or the study of
plausible relationships among both financial and non-
financial data
Investigation of fluctuations and relationships that are
inconsistent with other relevant information or deviate
significantly from predicted amounts by:
Inquiries of management
Corroboration of management responses and
Applying other appropriate audit procedures
Basic premise underlying the use of analytical
procedures:
The basic premise underlying the use of analytical
procedures is that plausible relationships among data may
reasonably expected to exist and continue (predictable) in
the absence of known conditions to the contrary. The
relationship among data should be both:
a. Plausible there is a clear cause and effect relationship
among data
b. Predictable reasonably expected to exist and
continue in the absence of known conditions to
the contrary
Generalizations in assessing the
predictability of the accounts:
Income statements accounts are more
predictable than balance sheet accounts.
Accounts that are not subject to management
discretion are generally predictable.
Relationships in a stable environment are more
predictable that those in a dynamic or unstable
environment.
Steps in applying analytical
procedures

Develop expectations regarding

financial statements

Compare the expectations with the

financial statements under audit

Investigate significant differences

Step 1 Develop expectations regarding
financial statements
Prior years financial statement
Anticipated results such as budgets or forecasts
Industry averages (Financial statements of other entities
operating within the same industry)
Non-financial information
Typical relationships among financial statement account
balances
Step 2 Compare the expectations with the
financial statements under audit
Step 3 Investigate significant differences
Use of analytical procedures in an
Audit
Stage of
audit
Planning the To understand the clients business
audit
To identify areas that may represent specific
risks
Substantive To obtain evidence to conform(or refute)
Tests individual account balances
Overall Review To identify unusual fluctuations that were not
identified in the planning and testing phase of
the audit
To confirm conclusions reached with respect to
the fairness of the financial statements
 Compare financial
statements with
expectations

Determine the difference

between the expected and
recorded balances

Is the
differenc YES
Design more extensive
e
substantive tests
significa
nt?

NO

Design less extensive

substantive tests
Documenting Audit Plan

Audit Plan
The overall audit plan sets out in broad terms the
nature, timing and extent of the audit procedures
to be performed.
Audit plan varies for each client, it should be
sufficiently detailed to guide in the development
of an audit program.
Audit Program

The audit program serves as a set of

instruction to assistants involved in the
audit and as a means to control and record
the proper execution of the work.
Time Budget

Is an estimate of the time that will be

spent in executing the audit procedures
listed in the audit program.
Basis for estimating audit fees
Assis in assessing efficiency of assistants.
Changes to audit plan and
program
The overall audit program should be
revised as necessary during the course of
the audit and the reasons for the
significant changes would be recorded.
Thank You