- 20 Marks
Question
Your partner invited you and other colleagues to a pre-audit meeting and informed you that the audit of Why Worry Agro Chemical Company Limited will soon commence. He stated that based on experience, the internal control system is not reliable. Therefore, it will be a transaction-based audit approach involving a high level of substantive testing.
He further informed the engagement team that arrangements will be made for a brainstorming session on risk assessment and how to address the risk, using relevant audit assertions. The internal specialists on information technology and tax were invited to the meeting, and two new audit trainees were attached to you on the audit.
As the proposed audit senior personnel on the audit team:
You are required to explain:
a. Substantive audit procedures (2 Marks)
b. Purpose of risk assessment (6 Marks)
c. Categories of financial statements audit assertions (6 Marks)
d. Examples of substantive testing (6 Marks)
Answer
a. Substantive Audit Procedures:
- Substantive audit procedures involve direct tests and vouching of items in the financial statements to detect material misstatements. This approach is generally used for entities with unreliable internal controls or specific audit areas needing close scrutiny.
b. Purpose of Risk Assessment:
- Provides a framework for designing responses to risks of material misstatement, be it from error or fraud.
- Helps identify the areas with higher misstatement risk and the extent of audit procedures needed.
- Sets materiality thresholds, guides audit planning, and defines testing scope by assessing control and inherent risks.
c. Categories of Financial Statement Audit Assertions:
- Existence: Assets or liabilities exist at a given date.
- Completeness: All transactions are recorded and included.
- Rights and Obligations: The entity holds or controls the rights to assets and liabilities.
- Valuation and Allocation: Assets, liabilities, and equity interests are included at appropriate amounts.
- Presentation and Disclosure: Items are appropriately classified and disclosed in the financial statements.
d. Examples of Substantive Testing:
- Bank Confirmation: Confirming balances with financial institutions.
- Accounts Receivable Confirmation: Verifying balances with customers.
- Inventory Counts: Observing and confirming inventory quantities.
- Analytical Procedures: Comparing financial information against benchmarks.
- Reconciliations: Ensuring records match across various documentation sources.
- Verification of Cut-off: Ensuring transactions are recorded in the correct period.
- Topic: Risk Assessment and Internal Control
- Series: MAY 2021
- Uploader: Kwame Aikins