Discuss about the Auditing and Assurance for Australian Auditing Standard.
There exists a risk that an Auditor can express an inappropriate opinion based on the financial statement of the entity this is known as Audit risk. The Australian Auditing Standard (ASA) 200 in Para 32 states that audit risk is the accumulation of risk due to material misstatement and detection risk. In Para 34 of the same standard it is stated that the material misstatement exist at the two levels the first is at the overall financial reporting level and second risk is of ascertaining the classes of transaction, disclosures and account balances. The Auditing Standard ASA 315 requires that the auditor should perform risk assessment procedure in order to identify the risk of material misstatement.
In the given case awesome fitness, Limited is engaged in the business of distributing gym equipments in Australia. The majority sales of the business are in cash. The fitness centre is planning to expand its business and for that purpose, it has applied for the loan in the bank. The unaudited figures of the financial statement showed that the revenue has increase by 20% and Gross profit by 5%. The accountant of the fitness centre adopts an aggressive accounting practice in order to show an inflated figure of the financial information as required by the management. In the given case, there is a risk of material misstatement because the accountant of the fitness centre has violated the fundamental ethical principle of objectivity. The fundamental principle of objectivity requires that the decision and work of the accountant should not be affected by the external circumstances (Carlon et al. 2015). In this case, accountant adopted an aggressive policy to make the financial statement presented in a manner as required by the clients. Therefore, it can be said that the situation is risky because the accountant may provided inflated figures so that the financial statement are prepared as per the requirement of the client.
The aggressive accounting practice of the accountant of awesome fitness centre affects the overall financial statement and different accounts. The financial statement is prepared with the aim not to provide the correct accounting information but to meet the expectation of the client. This accounting practice has impact on the different accounts of the fitness centre. The aggressive financial practice has resulted in 20% increase in revenue from the previous year. This increase in revenue means the sales account has been affected. The sales has been overstated to show to the bank that the awesome fitness limited has a growing and expanding business so that loan can be granted to the awesome fitness limited. The case also states that there is only 5% increase in profit. The increase in profit increases the tax liability therefore top reduce the tax liability the cost is also overstated. The accounts that are affected by this aggressive accounting practice of the awesome fitness centers are sales account and direct expenses account. This also has affect in the tax liability of the company.
The audit risk of material misstatement will affect the auditing procedure undertaken by the auditor. The planning of audit requires establishing an overall audit strategy and development of an audit plan as per the Auditing standard ASA 300, in Para 2. The audit planning helps the auditor to provide appropriate attention to the important areas. The proper audit planning is also helpful in resolving problems in a timely manner. It also helps the auditor to manage and organize audit engagement so that the audit functions could be performed in an effective and efficient manner. An appropriate audit plan also involves selection of appropriate members of the audit team so that they can respond to the audit risk in a proper manner. In this case, the audit risk is material misstatement of revenue accounts and the direct cost account. This audit risk will affect the overall audit plan of the auditor. The audit procedures are useful for testing the financial statement assertions. In order to address the specific audit risk of this case it is important that the address perform the specific audit procedures for verifying the sales and the cost figures. In order to verify the sales figures the auditor should check the bills raised by the client and in case of cash sales, whether cash has been received. The movement of inventory should be appropriately tracked to establish that the transaction and event has actually occurred. This movement of inventory can be tracked by choosing few sales through sampling technique and then tracking back to their sources. This audit procedure will help to identify whether the increased sales shown in the account is actual. The auditor should also perform the other audit procedures to identify the costs that have been overstated. The auditor in this case should following the vouching procedure. The auditor should check the bills and verify the expenses using other audit procedure to establish that the expenses made are actual and pertain to the audit period.
The Audit risk is the aggregate of risk of material misstatement and detection risk. In this case Super Tech limited is engaged in the manufacturing of the hardware. The company has adopted a new costing system for its cost sensitive product. Others have utilized this system in the industry but super Tech limited has not verified the adequacy and inherent risk of the system. The staffs and employee of the company are not confident about the new system, as they are not adequately trained. One of the competitors of the company has also introduced a product that is superior to the current of the company therefore increasing its competition. The control risk is the risk of material misstatement in the financial statement of the entity due to absence of the relevant controls within the entity. In this, the company has not verified the control within the system. The organization should have adequate internal control system to detect and then prevent the cases of fraud and error. If an entity does not have appropriate internal control system in place to prevent fraud and error in the financial statement then it is control risk. In case of small entities the control risks are higher than in large entities. In this case, the risk is that the company has not tested the adequacy and the control risk of the new system. The staff and employee of the company has not been adequately trained to adopt the new system so there is a risk that the staffs will not be able to implement the new system properly. The competition faced by the company has also increased by the launch of new advanced technological product by its competitors. This technological advancement may force the staffs and employees of the company to adopt the new technology without properly understanding and assessing its implications.
The adoption of new technology in the process without proper training of its employees and staff members will affect the operation of the business. Due to inadequate training, there will be inefficient utilization of capabilities and resources under this system. This inefficient utilization and lack of training will affect the operation cost of this system. The analysis of the operating cost of the system provides an overview of the efficiency and effectiveness of the operation of the entity. The investors and lenders therefore analyze the operating costs of the company before making the investment and lending decisions. The profit of the company is also affect by the operating costs. The inefficient operation will increase operating costs and thereby decrease profit. On the other hand, the efficient operation will decrease the operating costs and increase the profit. The operating cost therefore affects the accounts of cost and profit. The new technological advancement of the competitors would force the company and its employees to hide its lack of knowledge of the new system (Lye et al. 2014). The increased operating costs will reflect the inefficiency in operations so there is a possibility that the operating costs will be understated to provide a healthy positive picture to the investors and lenders.
The audit plans are affected by the assessment of risk. In this, case there is a risk that the inefficiencies in the operations will be hidden by reducing the operating costs. This assessment of risk requires that the audit plan made for verifying the cost should be of adequate details. Therefore, the auditor should undertake substantive audit procedure. The substantive audit procedure helps the auditor in obtaining sufficient and appropriate audit evidence to support the audit assertions. The substantive audit procedure helps the auditor to identify the material misstatement in the accounts. The substantive procedure includes examination of journal entries, testing the classes of transactions and checking of the financial statement with the notes to accounts. The substantive audit procedures are included in the audit plan. In this case, in order to identify if the operating costs are understated, it is important to perform vouching of all the important transactions related to the operations. The selection of transactions should be based on random sampling basis in order to avoid biases and for obtaining an objective result. Then after obtaining the understanding about the adequacy of transaction, it is important to compare the actual results of the operation with the budgeted result. This comparison would help the auditor to identify the inefficiencies in the operation.
In this, case the Coolworths is a growing super market chain in Australia. The business of the company has grown and expanded over the years as a result the financial director pro[posed an internal audit department of the company. The other members of the company are not aware of the benefit so they are not interested in the proposal. The Chief executive officer of the company does not agree with the proposal for setting up of an internal audit departments and believes that the funds could be better used for expansion. The internal audit is important for an organization because it offers the following benefits to the organization:
- It helps to keep the employees alert about their work performed as the functions are verified by the internal audit department.
- This helps in timely detection of errors and frauds so the management could take the corrective actions in appropriate time.
- It helps to check and improve the efficiency of the staff of the organization.
- The internal audit is helpful in detecting errors and frauds in the books of accounts in an early stage.
- As the performances are evaluated, so the moral of an honest employee improves by this process.
The importance of internal audit is therefore unparallel for efficient and effective operation of the business. In this case, the senior executive does not see any advantages of the internal audit this gives rise to risk of error and fraud (Carson et al. 2013). The internal audit would be helpful in detecting error and fraud so the absence of the department will increase the risk of material misstatement.
The internal audit department is not mandatory for an organization. It provides certain additional advantages to the organization so that the management can improve the functioning of an enterprise. The internal audit department becomes particularly important for organization that has large and scattered operation. In such cases, it is important that in order to maintain the efficiency and effectiveness of the business an overview of the system is necessary. The absence of an internal audit department in a large organization can lead to misstatement and omission at the multiple levels. This could result in overstatement and understatement of profit and cost. Therefore, in this case there is a risk of material misstatement in the financial accounts of the company.
The risk of material misstatement will affect the audit plan of the auditor. If there had been an internal audit department of the organization then the external auditor would not be required to perform the extensive audit procedure. It is because the internal audit will verify the authenticity of the of the financial transactions, it conforms the balances of liabilities that have been incurred by the organization, it facilitates the early detection of fraud and error. The internal audit is useful for establishing an efficient administration of operations (Contessotto and Moroney 2014). This function of the internal audit department reduces the risk level as a result the audit procedure performed also becomes less extensive. It is to be noted that it is the responsibility of the management to provide the financial information and it is the responsibility of the external auditor to provide opinion on the truth and fairness of that information. The internal audit does not dissolve the responsibility of the external auditor. The only function it does is that internal audit provides sufficient checks and balances so that auditor could avoid time consuming in depth extensive procedures. In this case, as there is no internal audit department so the auditor is required to perform detailed audit procedure.
Carlon, S., McAlpine-Mladenovic, R., Palm, C., Mitrione, L., Kirk, N. and Wong, L., 2015. Financial Accounting: Reporting, Analysis and Decision Making. John Wiley and Sons Australia.
Carson, E., Simnett, R. and Vanstraelen, A., 2013, September. Auditing the auditors: An international analysis of the effectiveness of national inspection regimes on audit quality. In The University of Auckland Business School Seminar.
Contessotto, C. and Moroney, R., 2014. The association between audit committee effectiveness and audit risk. Accounting & Finance, 54(2), pp.393-418.
Lye, J., Dunn, L., Kenny, J., Lehmann, J., Kron, T., Oliver, C., Butler, D., Alves, A., Johnston, P., Franich, R. and Williams, I., 2014. Remote auditing of radiotherapy facilities using optically stimulated luminescence dosimeters.Medical physics, 41(3), p.032102.