Assessing Materiality and Risk

Introduction

The concept of materiality is important in the context of auditing. Materiality is a function of the time, the situation, and the people involved. Below I will explain why certain accounts have to be audited 100 percent and why materiality is allocated only to those accounts that are sampled. I will also explain if there is any component of audit risk within the control of the auditor. Lastly, I will explain how the three risks that make up audit risk inter-relate.

Simulation

For Sweet Truths, certain accounts such as cash, lines of credit, and intangibles have to be audited 100 percent because they are generally composed of few transactions that are easy to verify. Plus these accounts are relevant to the confectionary industry.

Materiality is allocated only to those accounts that are sampled because the accounts that are audited 100 percent do need to have materiality allocated to them. Inventory, property, plant and equipment, and accounts payable involve numerous transactions and would be time-consuming to audit them thoroughly.

The component of audit risk within the control of the auditor is detection risk. Detection risk can be controlled by the auditor through the scope of the audit procedures performed. In this simulation for the balance sheet accounts, I selected the audit risk at high, inherent risk at low, and control risk at low for a detection risk of high.

The three risks that make up audit risk are inter-related because they assist the auditor in determining the scope of auditing procedures for a particular account balance or class of transactions. The audit risk model is specified as AR=IR x CR x DR. The inherent risk and control risk is the risk that the balance or class and related assertions contain misstatements that could be material to the financial statements when aggregated with misstatements in other balances or classes. The detection risk is the risk that the auditor will not detect such misstatements. The higher the audit risk, the lesser the evidence that has to be gathered by the auditor and the lower the audit risk the greater the evidence needs to be gathered by the auditor.

Conclusion

Materiality is a function of the time, the situation, and the people involved. I have explained why certain accounts have to be audited 100 percent and why materiality