Auditors perform various tasks in planning an audit engagement. Provide an overall description of how each task is performed and its purpose.a. Obtain an understanding of the client's business.b. Assess audit risk and materiality for the engagement.c. Assess fraud risk.d. Assess the risk of material misstatement of assertions about financial statement accounts and classes of transactions.

Question

What will be an ideal response?

Answer 1

a. The auditors obtain an understanding of the client's business through procedures such as inquiry of client personnel, observing client operations, studying AICPA Audit and Accounting Guides and Industry Risk Alerts and other industry publications, and reviewing prior annual reports, SEC filings, tax returns, and interim financial statements. An understanding of the client's business is necessary to the evaluation of the appropriateness of the client's transactions, accounting principles used, and the estimates and assumptions embodied in the financial statements. In addition, it provides part of the information to assess the risks of material misstatement.

b. Audit risk is the possibility that the auditors will fail to modify the opinion on financial statements that are materially misstated. The auditors assess this risk by considering characteristics of management, operations, and the engagement. Materiality for planning purposes is the auditors' preliminary estimate of the smallest amount of misstatement that would affect the decisions of reasonable users of the financial statements. The auditors use judgment to determine the amount of planning materiality, usually based on some rule of thumb.

Audit risk and materiality determine the overall scope of the engagement. The lower the amount of planning materiality, the more extensive the scope of the audit. The higher the risk of misstatement of the financial statements, the more extensive the scope of the audit.

c. The auditors are required to assess fraud risk on every audit. This assessment is based on information derived from: (1) the discussion among the audit staff about the risk of fraud; (2) inquiries of management, the audit committee, internal auditors, and others; (3) the results of risk assessment analytical procedures, and consideration of fraud risk factors. If the auditors identify fraud risks they may respond with: (1) an overall response to the way the audit is conducted or (2) a response specifically to address the identified risk. In all audits, they must include responses to further address the risk of management override of internal control.

d. The auditors assess the risk of material misstatement (composed of inherent risk and control risk) for each significant assertion about financial statement accounts and classes of assertions by considering the information about the client and its environment including internal control, and the nature of the account. These risk assessments are used to determine the nature, timing, and extent of the substantive procedures that will reduce the detection risk to the appropriate level.