What are the factors to consider Inherent Risk? Inherent risk is a measure of the auditor’s assessment of the likelihood that there are material misstatements in a segment before considering the effectiveness of internal control. Factors affecting assessment of inherent risk include: Nature of the client’s business : Industry practices Nan-routine transactions Makeup of the population Audit experience : Results of previous audits Initial vs.. Peat engagement Judgment required to correctly record transactions Culture : Related parties Factors related to fraudulent financial reporting Factors related to misappropriation of assets 2. What are the differences between ‘R, CRY, and DRY? Inherent risk refers to the likelihood of material misstatement of an assertion, assuming no related internal control. This risk differs by account and assertion. For example, cash is more susceptible to theft than assets such as fixed assets.
This risk is assessed using various analytical techniques, available information on the company and its industry, as well as by using overall auditing knowledge. Control risk is the likelihood that a material misstatement will not be prevented r detected on a timely basis by internal control. This risk is assessed using the results of tests of controls. Detection risk is the risk that an auditor’s procedures lead to an improper conclusion that no material misstatement exists in an assertion when in fact such a misstatement does exist.
The auditor’s substantive procedures are primarily relied upon to restrict detection risk. Inherent risk and control risk differ from detection risk in that they exist independently of the audit, whereas detection risk relates to the effectiveness of the auditor’s procedures and how well the auditor apply them. The level of detection risk that auditor can accept varies inversely with the level of inherent and control risk. The higher the inherent and control risk, the less detection risk that auditor can accept to keep the risk of material misstatement at an acceptably low level.
The less detection risk that auditor can accept, the more reliable of substantive procedures must be. 3. What are the five components of the COOS Internal control framework? Explain about COOS related to Control risk. Committee of Sponsoring Organization (COOS) is a joint initiative of five private sector organizations, established in US 985, dedicated to providing thought leadership to executive management and governance entities on critical aspects of organizational governance, business ethics, internal control, enterprise risk management, fraud, and financial reporting.
COOS has established a common internal control model against which companies and organizations may assess their control systems. Coco’s Internal Control-integrated Framework is the most widely accepted internal control framework in the U. S, describes five components of internal control that management designs and implements to provide reasonable assurance hat its control objectives will be met. Each component contains many controls, but auditors concentrate on those designed to prevent or detect material misstatements in the financial statements.
The 5 components of the COOS internal control framework includes: 1 . Control environment: The control environment consists of the actions, policies, and procedures that reflect the overall attitudes of top management, directors, and owners of an entity about internal control and its importance to the entity. 2. Risk assessment: Risk assessment is management’s identification and analysis of risks relevant to he preparation of financial statements in accordance with accounting standards 3.
Control activities: Control activities are the policies and procedures that help ensure that necessary actions are taken to address risks to the achievement of the entity’s objectives 4. Information and communication: The purpose of an accounting information and communication system is to initiate, record, process, and report the entity’s transactions and to maintain accountability for the related assets. 5. Monitoring: Monitoring activities deal with management’s ongoing and periodic assessment f the quality of internal control performance to determine whether controls are operating as intended and modified when needed.
Explain about COOS related to Control risk : Control Risk is the risk that a material error in an account will not be prevented or detected on a timely basis by the client’s internal control structure. Assessing control risk is the process of evaluating the effectiveness of an entity’s internal control structure in preventing or detecting material misstatements in the financial statements. An auditor will assess control risk at maximum level if the auditor finds that the internal control system is not effective and will not be able to detect or prevent or correct any misstatement or error in the account balance.
Coco’s Internal Control-Integrated Framework describes five components that necessary for effectively designed and implemented internal control. With an effective internal control system will help a company/ audit entity to: Effectiveness and efficiency of operations; Reliability of financial reporting; Compliance with applicable laws and regulations. Therefore, it helps to decrease Control risk of audit entity.
Stakeholders can be influenced greatly by an audit. It may mean the difference on the company getting a bank loan or for an investor to bring in capital. The external audited financial statements were expected to provide some opinion to the reported earnings in the financial statements prepared by management which are within legal regulation and GAP. B. Discuss the external auditors’ right and duties as governed by Companies Ordinance.
For the right of auditors, auditors may request company to provide all information of which management and, where appropriate, those charged with governance are aware that is relevant to the preparation of the financial statements such as records, documentation and other matters. Additional information that the auditor may request from management and, where appropriate, those charged with governance for the purpose of the audit. Unrestricted access to persons within the entity from whom the auditor determines it necessary to obtain audit evidence.
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The primary duties of an audit s to review and verify the company’s financial statements to form an opinion about the company’s financial statements. They may give a qualified, unqualified, adverse opinion or even a disclaimer. Each one of these opinions can be vital for an organization. These opinions state whether the financial information was justly represented, misleading, or insufficient enough to form an opinion. These statements tell the public if the company is truthful and open with their financial information or if they seem to be hiding something they do not want anyone to e.
External auditors are the police and judges of the financial public affairs. The goal is a safe and sound set of financial statements to protect private and public investment. Also, they can give advice management through recommendations in their audit notes or discussions. Constructive suggestions can improve the procedures for documentation more efficient, ethical, or fairly presentable. C. Outline two court cases with which you are familiar and highlight how they have influenced the development of auditing. Case 1 . Re London and General Bank (1895)
In this case the company had taken credit for interest accrued on loans which were never likely to be repaid. Many of these loans were statute barred (i. E. Uncorrectable). The auditor was aware of the problem and reported only to the directors and not to the shareholders. Subsequently the financial statements did not show a true and fair view. In summing up, the judge stated that the auditor had a duty to shareholders to report any dishonest acts that had occurred. He said the auditor could not expect to find every error but had a duty to use due are and skill.
Case 2, Re Kingston Cotton Mill Co. Ltd (1896) In this case the accounts had been falsified to a very considerable extent by the managing director, by extensive overvaluations of stock. In this instance the auditors were deceived, and although they acted with due care, they had understandably missed the deception. Lord Justice Lindsey stated that the auditor is not bound to be a detective; he is a watchdog and not a bloodhound. In this instance the directors are liable to the shareholders for fraud. Reference: http://catalogue. Pearson. o. K/assets/hip/KGB/hip_KGB _personalized/complicates/0273711733. PDF Both this two case represent a cornerstone for auditor liability. A major error or oversight by the auditor can result in an incorrect opinion. If this happens, the auditor then has a liability to parties who suffer a loss. The auditor is a person whose position is an independent one, whose duty it is to discover and point out the errors or mistakes of the directors or a corporation if any, the gains and losses of the company to show in fact, exactly the true states of the accounts.