1. Why is planning an audit important?

Planning an audit includes establishing the overall audit strategy for the engagement
and developing an audit plan. Proper planning benefits the audit in several ways. It
helps the auditor:
a) Identify and devote appropriate attention to significant areas of the audit
b) Identify and resolve potential problems on the audit
c) Properly organize and manage the audit engagement so that it is performed in
an effective and efficient manner
d) Assist in the selection of engagement team members with appropriate levels of
capabilities and competence
e) Facilitates the supervision of engagement team members
f) Assists in coordination of work done by specialists and auditors of
components of the entity. If the audit is not properly planned, the auditor may
issue an incorrect audit report or conduct an inefficient audit.

2. When is planning actually performed by the auditor?

Naturally, it is reasonable to assume that planning occurs towards the start of an audit
engagement. However, according to ISA 300, planning should not be seen as a discrete
and separate part of the overall audit. Planning often begins shortly after, or in connection
with, the completion of the previous audit, for example, with a review of issues that were
discussed with management, such as control deficiencies or unadjusted errors. Such
matters are relevant to the next year’s audit and need to be considered when planning.
Similarly, the audit plan may be revised as the audit progresses, and should not be viewed
as being fixed in place once the main planning phase has ended. For example, a
significant event may take place as the audit is in progress, meaning that the audit plan
needs to be changed.
The nature and extent of planning activities depends on the size and complexity of the
audit client, previous experience of the audit firm with the client, and any changes in
circumstance that may occur during the audit.

3. Explain the different activities involved in planning an audit.

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4. Differentiate audit plan, audit strategy and audit program.

Audit plan is a description of the nature, timing, and extent of the audit producers to
be performed. It is often documented with an audit program. The audit plan is more
detailed than the audit strategy. Audit strategy is the approach which involves
determining overall characteristics of an audit that defines its scope, its reporting
objectives, timing of procedures and various important factors relating to the audit.
When the overall audit strategy has been established, the auditor’s start the
development of a more detailed audit plan to address the various matters identified in
the audit strategy. Audit program is a detailed listing of the specific audit procedures
to be performed in the course of an audit engagement. Audit programs are tailored to
the risks and internal control of each engagement.

5. What is materiality?
Materiality refers to the amount by which a set of financial statements could be
misstated without affecting the judgment of a reasonable person. For example,
 suppose a company’s earnings per share is 4.50 but due to an unintentional error the
company mistakenly reports EPS of 4.52. This very small difference is unlikely to
affect an investor’s decisions in any significant way.

6. How can different materiality levels be quantified?

The materiality level is often determined by applying a percentage to a chosen
benchmark. There is no definitive figure for this percentage, such as more than 10 percent
is material, because of the number of variables which could apply. Examples of
benchmarks are categories of reported income such as profit before tax, total revenue,
gross profit, total expenses, total equity and/or net asset value.
 Profit before tax from continuing operations is often used for profit- oriented
entities.
 When profit before tax from continuing operations is volatile, other benchmarks
may be more appropriate, such as gross profit or total revenues.
Using a percentage as a numerical threshold may provide the basis for
a preliminary assumption that a deviation of less than that percentage
is unlikely to be material. However, quantifying the size of a misstatement in percentage
terms is only the start, and cannot be used as a substitute for a full analysis of all relevant
considerations.

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11.pdf

7. Define risk assessment procedures. Distinguish it from further audit procedures.

Risk assessment procedures include inquiries of management and others, preliminary
analytical procedures, and observation and inspection. Such procedures are used to
assess the risk of material misstatement at the financial statement and assertion levels.
While Further audit procedures is the additional procedures that are performed based
on the results of the auditor’ risk assessment procedures. Such procedures include test
of controls, detailed test of transactions, balances and disclosures and substantive
analytical procedures.

8. What the different factors considered when understanding the entity and its
environment? Explain.
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9. What is risk of material misstatement?
Risk of material misstatement is the risk that financial statements are materially
misstated prior to audit. It is the risk that the figures and disclosure in the financial
statement are not in accordance with accounting standards and the acceptable financial
reporting framework.

10. Distinguish inherent risk and control risk.

Inherent risk, this is the susceptibility of an assertion in an account or disclosure to a
misstatement due to error or fraud that could be material, either individually or when
aggregated with other misstatements, before consideration of any related controls.
While Control risk, this is the risk that a misstatement that could occur in an assertion
about an account 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.
11. Can inherent risk be reduced to zero? Why or Why not? How about control risk?
Why or Why not?

12. Distinguish fraud from error.

The term errors refers to unintentional misstatements of amounts or disclosures in
financial statements. The term fraud refers to an intentional act by one or more among
management, those charged with governance, employees, or third parties, involving
the use of deception that results in a misstatement in the financial statements. Thus,
the primary distinctions between errors and fraud is whether the misstatement was
intentional and unintentional.

13. Explain types of fraud.

Fraud can be classified into two types: misstatements resulting from fraudulent
financing reporting and misstatements resulting from misappropriation of assets.
Fraudulent financing reporting involves intentional misstatements of omissions of
amounts or disclosures in the financial statements to deceive financial statements
users. This type of fraud is also known as management fraud because it usually
involves members of management or those charged with governance. this may
involve:
 Manipulation, falsification or alteration of records or documents.
 Misrepresentation in or intentional omission of the effects of transactions from
records or documents.
 Recording of transactions without substance.
 Intentional misapplication of accounting policies
Misappropriation of assets or employee fraud involves theft of an entity’s assets
committed by the entity’s employees. This type of fraud is often accompanied by false
or misleading records or documents on order to conceal the fact that the assets are
missing. This may include:
 Embezzling receipts
 Stealing entity’s assets such as cash, marketable securities, and inventory
 Lapping of accounts receivables

14. Explain the Fraud Triangle.

The Fraud Triangle is a framework commonly used in auditing to explain the
motivation behind an individual’s decision to commit fraud. Three conditions are
generally present when material misstatements due to fraud occur:
 Management or other employees have an incentive or are under pressure that
provides a reason to commit fraud.
 Circumstances exist that provide an opportunity for a fraud to be carried out.
 Those involved are able to rationalize committing a fraudulent act. Some
individuals possess an attitude, character, or set of ethical values that allow
them to knowingly and intentionally commit a dishonest act.
Even honest individuals can commit fraud in an environment where sufficient pressure is
being exerted on them. The greater the incentive or pressure, the more likely an
individual will be able to rationalize the acceptability of committing fraud. Withholding
evidence or misrepresenting information through falsified documentation, including
 forgery, may conceal fraud. Fraud also may be concealed through collusion among
management, employees, or third parties.

15. What type of fraud is harder to detect? Why?

The misstatements resulting from fraudulent financing report and misstatements is
harder to detect. It may start with taking an overly optimistic accounting position to meet
a one off target. Principles-based accounting standards often require judgment which
combined with increasingly complex operational practices, can inadvertently provide
levers to inflate revenue to meet a target, or increase costs to smooth profits year on year.
Formally determining what is and what is not a fraud is a matter of judgment ultimately
for the courts. The dividing line between an ‘aggressive’ accounting policy and
fraudulent financial reporting is rarely clear and, importantly, often only emerges over
time as a situation deteriorates. If pressure builds to continue to meet difficult or
unrealistic targets, this behavior could be repeated in each reporting cycle. An adjustment
that was insignificant initially may build up to represent a significant value over time.
Bias to accept a previously agreed treatment can exacerbate this, making it even more
difficult for management and auditors to spot or respond. Like the proverbial frog in
boiling water, both may only realize there is a problem with the treatment after it has
crossed the line from aggressive accounting to fraud.

16. What are analytical procedures? Explain the use of analytical procedures in the
planning, testing and completion stage of the audit.
Evaluations of financial information made through analysis of plausible relationships
among both financial and nonfinancial data.
Analytical procedures can be used by an auditor to accomplish three purposes:
 Risk assessment procedures to assist the auditor to better understand the
business and to plan the nature, timing, and extent of audit procedures
(sometimes referred to as planning or preliminary analytical procedures).
 Substantive analytical procedures are used as a substantive procedure to
obtain evidential matter about particular assertions related to account balances
or classes of transactions.
 Final analytical procedures are used as an overall review of the financial
information in the final review stage of the audit.

17. Explain the audit risk model, including the relationship between audit risk,
detection risk, inherent risk and control risk.
The audit risk model provides a framework for auditors to follow in planning audit
procedures and evaluating audit results. The auditor considers audit risk at the relevant
assertion level because this directly assists the auditor to plan the appropriate audit
producers for the accounts, transactions, or disclosures. This model expresses the
general relationship of audit risk to the auditor’s assessments of risk of material
misstatement (inherent risk and control risk) and the risks that the auditor’s procedures
will fail to detect a material misstatement in a relevant assertion (detention risk). The
determination of audit risk and the use of the audit risk model involve considerable
judgment on the part of the auditor. The audit risk model assist the auditor in
determining the scope of auditing procedures for an assertion in an account or
disclosure.

18. Define substantive testing.

 Substantive testing is defined in the auditing standards as ‘those test of transactions
and balances, and other procedures such as analytical review, which seek to provide
audit evidence as to the completeness, accuracy and validity of the information
contained in the accounting records or in the financial statements.’

19. How does detection risk affect substantive tests?

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