Chapter 19 Report

IDENTIFYING
IDENTIFYINGand
and
ASSESSING
ASSESSINGRISK
RISK
OF
OFMATERIAL
MATERIAL
MISSTATEMENT
MISSTATEMENT
Definitions of Important Terms Covered in this
Chapter
INTERNAL CONTROL- the process designed, implemented and maintained

by those charged with governance, management and other personnel to
provide reasonable assurance about the achievement of an entity’s
objectives and compliance with applicable laws and regulations.
RISK ASSESSMENT PROCEDURE- the audit procedures performed to

obtain an understanding of the entity and its environment, including the
entity’s internal control, to identify and assess the risks of material
misstatement, whether due to fraud or error, at the financial statement and
assertion levels.
2
Definitions of Important Terms Covered in this
Chapter
ASSERTIONS – are representations by management that are embodied in
the financial statements and used by the auditor to consider the different
types of potential misstatements that may occur.
BUSINESS RISKS – risks resulting from significant conditions, events,

circumstances, that could adversely affect an entity’s ability to achieve its
objectives and execute its strategies.
SIGNIFICANT RISKS- An identified and assessed risks of material

misstatement that, in the auditor’s judgment, requires special audit
consideration.
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WHAT’S
THE To identify and
appropriately
assess the risks of
material
OBJECTI
misstatement,
thereby providing a
basis for designing
and implementing
responses to the
VE OF
risks of material
misstatement.
4
Material
1 misstatement
Variety of Sources
 personnel who lack the necessary COMPANY SPECIFIC

EXTERNAL financial reporting competencies FACTORS
FACTORS  information systems that fail to
accurately capture business
transactions. nature of the company, its
 financial reporting processes that activities, and internal
conditions in the are not adequately aligned with control over financial
company's industry and the requirements in the applicable reporting
environment financial reporting framework.
Perfoming RISK
ASSESSMENT
PROCEDURES
1. Obtaining an understanding of the company and its environment .
1. Obtaining an understanding of the company and its environment .
2. Obtaining an understanding of internal control over financial reporting.
2. Obtaining an understanding of internal control over financial reporting.
3. Considering information from the client acceptance and retention evaluation, audit
3. Considering information from the client acceptance and retention evaluation, audit
planning activities, past audits, and other engagements performed for the company
planning activities, past audits, and other engagements performed for the company
4. Performing analytical procedures
4. Performing analytical procedures
5. Conducting a discussion among engagement team members regarding the risks of
5. Conducting a discussion among engagement team members regarding the risks of
material misstatement and
material misstatement and
6. Inquiring of the audit committee, management, and others within the company about the
6. Inquiring of the audit committee, management, and others within the company about the
risks of material misstatement .
risks of material misstatement .
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Note: The auditor's risk assessment
procedures should apply to both the
audit of internal control over
financial reporting and the audit
of financial statements.
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Obtaining an Understanding of the Company
and Its Environment
The auditor shall obtain an understanding of the following:
✗ Relevant industry, regulatory, and other external factors;

✗ The nature of the company;
✗ The company's selection and application of accounting principles, including related
disclosures;
✗ The company's objectives and strategies and those related business risks that might
reasonably be expected to result in risks of material misstatement; and
✗ The company's measurement and analysis of its financial performance.
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Nature of the company
✗ Obtaining an understanding of the nature of the company includes
understanding:
✗ The company's organizational structure and management personnel;
✗ The sources of funding of the company's operations and investment
activities, including the company's capital structure, noncapital funding and
other debt instruments;
✗ The company's significant investments, including equity method
investments, joint ventures, and variable interest entities;
✗ The company's operating characteristics, including its size and complexity;
✗ The sources of the company's earnings, including the relative profitability of
key products and services; and
✗ Key supplier and customer relationships.
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Entity’s internal control
✗ Nature and Extent of the Understanding of Relevant Controls
✗ When obtaining an understanding of controls that are relevant to the audit, the auditor shall
evaluate the design of those controls and determine whether they have been implemented, by
performing procedures in addition to inquiry of the entity’s personnel.
✗ Components of Internal Control Control environment

✗ (a) Management, with the oversight of those charged with governance, has created and maintained a
culture of honesty and ethical behavior; and
✗ (b) The strengths in the control environment elements collectively provide an appropriate foundation
for the other components of internal control, and whether those other components are not undermined
by deficiencies in the control environment.
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Business risks THAT MAY
INDICATE ROMM
✗ The following are examples of situations in which business risks might result in material
misstatement of the financial statements:
✗ Industry developments
✗ New products and services
✗ Use of information technology ("IT")
✗ New accounting requirements
✗ Expansion of the business
✗ The effects of implementing a strategy, particularly any effects that will lead to new accounting
requirements
✗ Current and prospective financing requirements.
✗ Regulatory requirements
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Process of identifying and assessing romm
Step 2
Relate risks Step 3
Step 1
to WCGW at Consider
IdentifyAssess
the Assertion Lielihood and
And relate risks to
level and Magnitude of
Financial Statements
relevant Misstatement
controls
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Identifying and Assessing the
Risks of Material Misstatement
✗(a) the financial statement level; and
✗ (b) the assertion level for classes of transactions, account balances, and disclosures to provide a
basis for designing and performing further audit procedures.
 For this purpose, the auditor shall:

✗(a) Identify risks throughout the process of obtaining an understanding of the entity
✗(b) Assess the identified risks
✗ (c) Relate the identified risks to what can go wrong at the assertion level, taking account of relevant
controls that the auditor intends to test; and
✗ (d) Consider the likelihood of misstatement, including the possibility of multiple misstatements, and
whether the potential misstatement is of a magnitude that could result in a material misstatement.
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Significant risk
✗ In exercising judgment as to which risks are significant risks, the auditor shall consider
at least the following:
(a) Whether the risk is a risk of fraud;
(b) Whether the risk is related to recent significant economic, accounting or other
developments and, therefore, requires specific attention;
(c) The complexity of transactions;
(d) Whether the risk involves significant transactions with related parties;
(e) The degree of subjectivity in the measurement of financial information related to the risk,
especially those measurements involving a wide range of measurement uncertainty; and
(f) Whether the risk involves significant transactions that are outside the normal course of
business for the entity, or that otherwise appear to be unusual.
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Significant
risks
 Risks that require Special Audit

Consideration
 If the auditor has determined that a

significant risk exists, the auditor shall
obtain an understanding of the entity’s
controls, including control activities, relevant
to that risk.
15
Thanks!
16

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IDENTIFYING

INTERNAL CONTROL- the process designed, implemented and maintained

RISK ASSESSMENT PROCEDURE- the audit procedures performed to

BUSINESS RISKS – risks resulting from significant conditions, events,

SIGNIFICANT RISKS- An identified and assessed risks of material

 personnel who lack the necessary COMPANY SPECIFIC

✗ Relevant industry, regulatory, and other external factors;

✗ Components of Internal Control Control environment

 For this purpose, the auditor shall:

 Risks that require Special Audit

 If the auditor has determined that a

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