Identifying and assessing audit risk is
the key part of the audit process. Explain audit risk.
What is audit risk? Audit risk is defined as a material
misstated of financial statement that due to inappropriate audit opinion that issues
by the auditor. Audit risk are classified into to two components, risk of
material misstated and detection risk. Risk of material misstated is define as the
material misstated of financial statement that face by the auditor before audit
and the risk of material misstated consider have two component, inherent risk
and control risk.
Inherent risk is one of the major types of audit risk in
the financial services sector as it is difficult to detect or protect under the
assumption of no internal control. This risk basically is affected by complexity
of transactions of the financial statement, client nature of business or
external environment like political problem, climate change and other effect of
PESTEL (political, economic, social, technological, environmental, and legal) as
to detect a complex transaction of financial statement, it highly involving the
human judgment. So, normally the risk will be high if involvement to the human
Control risk also known as an internal control risk.
it almost same as the inherent risk, but it has involved the internal control and
still the material misstatement or error of financial statement is difficult or
unable to detect or fail to protect by internal control of the entity. Mostly
this risk happened is due to weak of the internal control that cause the
material misstatement of financial report, because of this high chance auditor
could not detect all those kind material misstatement of financial statement.
So, it means that the control risk also will lead to the audit risk.
Detection risk is that auditor issued an inappropriate
opinion based on the financial statement that have material misstatement and it
cause by the auditor who audit the financial statement fail to detect those
material misstatements. Basically, detection risk occur is due to the wrong
audit methodology, lack of audit client, low capability, improper audit planning
and so on. For example, if the auditor is poor in audit planning and not have a
good understanding about the nature of business of that company, so most of the
risk cannot be defined, then this cause the audit program that use to detect
the risk to deploy incorrectly and because of this the material will be occur.
Explain why audit risk is so
important to external auditors (with relevant International Standards of
Why audit risk is importance to external auditor? Audit
risk is necessary for all of the audit process as no way that an auditor could
check all of the transaction because as you can see for most of the publisher
account of the large company there have about a vast number of transaction like
statement of financial position and statement of comprehensive income. So, no one
will pay the auditor to check all the transaction, but most on the company will
prefer to use the risk-based approach toward auditing as it will reduce the
chance for the auditor to giving an inappropriate audit opinion and most of the
material misstatement of the financial statement is cause by the error of the
balance and transaction. Besides that, audits that process according to the ISAs
(International Standards of Auditing)
need to follow the risk-based approach as it can ensure that the audit work to conducted
efficiency and testing the risk effectively based on the audit risk assessment.
For the international standard of accounting, there are many reference of ISAs
that about that audit risk, but out of this reference there are only two most importance
referent that related to audit risk, international standard of accounting(ISA)
315 and international standard of accounting(ISA) 200.
ISA 315, identifying
and assessing the risk of material misstatement through understanding the entity
and its environment. ISA 315 first was published in 2003 by the International
Auditing and Assurance Standards Board(IAASB) and united states auditing standard
after a joint audit risk process as been conducted by them. ISA 315
is all about the responsibility of the auditor to identify and examine the risk
of the material misstatement by obtain the understanding of the nature of the
business, entity and the environment of the company that including the entity’s
internal control and risk assessment process.
ISA 200, overall objectives of the independent auditor
and the conduct od an audit in accordance with ISAs. Mostly the reference to
the audit risk is made by ISA 200. ISA 200 is all about the objectives of an auditor
carried out a work. To meet the objective, the standard explain that nature and
scope of the audit designed is the key that enable an auditor to meet those
objectives. Besides that, the standard also required an auditor to have the
attitude of professional scepticism when they are planning a performing the
audit, so that the auditor will always have an attitude to think that the material
misstatement of the financial statement might exist in any circumstances.
(c) Explain the audit procedures which can help external
auditors to reduce audit risk.
There are four stages of the audit procedures which
can help external auditor to reduce audit risk. First, risk assessment
procedures, follow by understanding an entity, identification and assessment of
significant risk and the risk of material misstatement and the last will be ISA
330 and responses to assessed risk.
First stages, risk assessment procedures are according
to the ISA 315 as it is giving an overview for the auditor about the procedures
and the auditor also need to follow this procedure in order to gain a sufficient
understanding to evaluate the audit risk and all of these will be considered when
designing the audit plan. Beside that, auditor also need to perform risk
assessment produced so that it will make it easy for the auditor identify and
assessment the risk of material misstatement of the financial statement. Making
inquiries of management and other within the entity, analytical procedures and
observation and inspection are the three risk assessment procedures that need
to but carried out in order reduce the audit risk.
Making inquiries of management and other within the entity
is before starting the auditing first the auditor need to have a small
discussing with the client’s management what is the objective, expectation and
plan that need to be carried out in order to achieving those goal. Analytical
procedures are one of the financial audit process that evaluation the financial
information through analysis of plausible relationship among the financial and
non-financial data which will help the auditor to identifying all of those unusual
transaction and it also may assist the auditor to assesing the potential risk
area that unaware by them to provide a basis for designing and implementing a
response to risk assessment. Observation and inspection may enable auditor to
obtain the information about the entity and environment that including their operation,
report, premise, plant facilities, document and so on.
Second stages, understanding an entity that is the
understanding of the auditor about the entity and environment, including their internal
control. It is importance because it helps to identify the risk of material misstatement
and to ensure that all of those appropriate audit evidence are collected sufficiently,
so that the audit can be carried out smoothly.
Third stages, identification and assessment of significant
risk and the risk of material misstatement is the stages that the auditor need
to consider which are the risk is significant risk. For example, whether it is
risk of fraud risk, complexity of transaction, risk that related to recent
significant economic, accounting or other development, risk that involve significant
transaction that related with other parties and so on. Last stages are ISA 330
and responses to assessed risk that all about the nature and extent of the
testing required, based on the risk assessment findings to detect and
correcting the material misstatement, so that the audit risk can be reduce.
Explain the importance of external auditor independence.
Why external auditor independence is importance?
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Wikia accounting. 2015. 3 Types of Audit Risk: Definition | Model | Example | Explanation. ONLINE
Available at: https://www.wikiaccounting.com/what-is-audit-risks/. Accessed 1
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