AUDIT RISK

NOVEMBER 2011

ISA 315, Identifying and Assessing the Risks of Material Misstatement Through

Understanding the Entity and Its Environment identifies the following assertions:

? Assertions about classes of transactions and events for the period under

audit – occurrence completeness, accuracy, cut off and classification.

? Assertions about account balances at the period end – existence, rights

and obligations completeness, and valuation and allocation.

? Assertions about presentation and disclosure – occurrence and rights

and obligations, completeness, classification and understandability, and

accuracy and valuation.

In addition, a risk can relate to a practical problem the audit team may face,

such as attendance at inventory counts where the company has multiple sites

holding simultaneous inventory counts, or if the company has had significant

changes in their finance department and so the risk of fraud and error has

increased.

The common mistake is for candidates to identify a relevant issue from the

scenario and then consider the risk to the company rather than to the auditor,

linking into the related assertion.

Therefore, using Question 3b from the June 2011 exam: ‘The travel agents are

given a 90-day credit period to pay Donald Co; however, due to difficult trading

conditions, a number of the receivables are struggling to pay.’ The audit risk

related to this point is that if receivables are struggling to pay, then they may

be overstated and, hence, valuation of receivables is the relevant risk.

The business faces the risk of slow cash flows and so there is a business risk

related to the liquidity of Donald Co. While going concern is an audit risk, the

above point from the scenario is not sufficient on its own to indicate going

concern risk.

In addition, Question 1a from the June 2010 exam told candidates: ‘Purchase

orders for overseas paint are made six months in advance and goods can be in

transit for up to two months.’ The explanation of the audit risk would be to

ascertain that the cut-off of inventory is appropriate at the year end. However,

many candidates explained that the company may encounter problems with

stock-outs of goods, which is focused more on operational business risk rather

than on the risks to the financial statements.

Other examples of audit risks include:

? treatment of capital and revenue expenditure – the risk here could relate

to existence of property plant and equipment if revenue expenditure has

been capitalised rather than charged as an expense in the income

statement

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