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Factors increasing inherent risk at financial level

Discuss about the Auditing and Assurance for Cloud Computing.

Integrity of management is the first factor that leads towards increase in inherent risk at the financial level of report making. If the management do not possess integrity then this will move the organization towards bad reputation in the business world. Lack of integrity also shows the wrong actions of management which is carried to restrict the access of auditor in regard to material information and people. In this case study the owners of One.Tel lacks integrity of management as the auditors are going to be appointed by management which will influence the independence of auditors and the auditors will not be able to carry out the work with due diligence. In addition to this management of One.Tel will also keep a check on the financial statement preparations which increases the chance of manipulation in accounts (Purdy, 2010). Top level executives also manipulate the financial statements to attract more investments and to assure the shareholder about their profitability.

Management experience and knowledge is the second factor that increases the inherent risk at the financial level. Insufficient knowledge and lack of experience can negatively affect the preparation of financial statements. Inherent risk increase with the increase of inexperienced key personnel at the management level and this will result in resignation of efficient employees from the organization. Efficient employees will leave the organization because of lack of knowledge of management and inexperienced management people are more willing towards conducting of fraud (Elder et al., 2011). In this case study both the executive and non executive directors have lack of experience in telecommunication industry which increases the inherent risk of employees turnover in the organization and the inexperienced management will negatively impact preparation of financial statements.

The third factor that increases the inherent risk at the financial level is extra involvement of management of the organization. This encourages the management to falsely represent the financial statements. Due to extra involvement of management the company can face various problems like poor liquidity, poor operating results, arising of cash flow problems. The management different schemes of compensation are attached to earnings per share which can help the management to misrepresent the financial statement. In this case study of One.Tel, only few individuals dominate the organization decisions regarding operations and financing (Covello et al., 2012). This will cause a high risk of material mismanagement in decisions of organization because of lack of review in decision of management by the board committee. Managers generally do not make enough provisions provision for debts and depreciation of plant and machinery.

New organization in penetrated market

The new organization in penetrated market generally faces the inherent risk of reputation formation and revenue generation. There are various inherent factors associated with the nature of business of the organization. The existence of the related party transactions will also lead the organization towards inherent risk (Tuncel and Alpan, 2010). In this case study One.Tel faces the inherent risk of reputation and generation of revenue because Telstra and Vodafone had already penetrated the industry. So, One Tel. has a huge inherent risk from competitors.

When an organization carry out its operation in large market and geographically diverse market then the inherent risk occurs. This leads the financial statement towards complexity because of various offices at different locations. The complexity in financial statements requires the advice of expert which also works as inherent risk. Sometimes the top level management do not want to appoint the experts and make the financial statements on their own which makes the financial statements full of mistakes (Junior et al., 2014). Top level executives do not know the complexity of financial statements which are better known by experts.

It is analysed that One Tel. is lagging behind the Telstra and Vodafone who are the market leader because the organization is new to the industry which is one of the inherent risk faced by the organization. Changes in economic and competitive conditions play a major impact on the inherent risk for the organization (Griffiths, 2012). In this case study Australia’s telecommunications infrastructure is fully digitalised having land lines phone penetrating about 96per cent of households which brings inherent risk for the organization at the financial level.

The managers who are responsible for formulation of financial statements generally get the pressure from top level executives to prepare the financial statements in a shorter span of time. In this case study, the managers do not have sufficient time to formulate the financial statements so the mistakes made by them in rush of making financial statements will work as inherent risk. The pressure by top level executives to the manager to show profitability will also work as inherent risk. This will make the manager to manipulate the accounts so that more finance can be raised from market and to instigate the shareholders. The financial managers can also be told by top level executive to manipulate the accounts in order to show less profit (Merna and Al-Thani, 2011). This activity is carried out by top level management to buy the shares at lower price so that income tax can be evaded. This manipulation can also be done to deceive the competitors about the profitability of organization.

Complexity in financial statements


Economic conditions of the organization influence the managers to manipulate the financial statements of the organization so that more profitability can be shown to investors.  In this case study, financial transactions require complex calculations which arises the inherent risk of misinterpretation of financial statement. Telecommunication industry face technological advancements at a rapid speed which generally increases the risk of obsolescence of inventory and this lead the organization towards financial distress (Knechel et al., 2012). As, One Tel. is facing high financial risk so chances of misrepresentation of financial statements are also high which is a factor contributing towards inherent risk.

The misstatement in the financial statement, lack of management experience and knowledge, and integrity of management are the various factors of inherent business risk that can be identified during the strategic business risk assessment. These inherent risk factors can be identified by evaluation of external environment and business risk. Identification of these factors during the evaluation of strategic business risk will help the organization to reduce impact of such factors that ultimately reduces the inherent risk of the organization (Louwers et al., 2013). If an organization conduct strategic business risk analysis then the organization will be able to reduce the inherent risk that can be face by the organization at a later stage.

The first inherent risk factor that exists at the account balance level is auditor business risk. It involves auditor’s exposure with the damage or loss caused due to the unfair activities with the help of litigation, false publicity and practises carried out in relation to account balance level. It leads to inherent risk of avoidance of material statement in the accounts because of internal control structure of top level management of organization (Arens et al., 2010). In this case study, One Tel. faces the inherent auditor business risk because of extra involvement of top level management which can lead to hindrance of material information in the accounts.

The accounts are adjusted in order to hide loss and show profitability which is one of the inherent risks present at the account balance level. Organization top management overstate the accounts so that extra finance can be raised from market from various sources. In this case study, One tel. is facing losses because of market penetration in telecommunication industry so the organization faces the inherent risk of manipulation in accounts to falsely represent the profitability of the company (Hayes et al., 2014). It is always very hard to find out the accounts in which manipulation has done.

Pressure to prepare financial statements in short span of time

One of the inherent risk factor present at the time of account balance level is occurrence of error at the time of recording of items in the account receivable segment. This is done to show the generation of revenue to the organization. One Tel. also faces the same inherent risk of making fraud at the time of inserting of items in account receivable segment of current assets in balance sheets (Alali and Yeh, 2012). As, the company is new to the industry and is not stable so in order to show false generation of revenue, the inherent risk at account balance level increases with the fraud in accounts receivable.


Significant overdue of extensive number of accounts receivables is another inherent risk factor which is present at the account balance level. In this case study, One Tel. is also facing the inherent risk of overdue of maximum number of accounts receivables. This inherent risk occurs to One Tel because of the involvement of top level management in the formulation of financial statements as all the executive and non executive directors have mutual benefit derived from the profitability of the company (Florea and Florea, 2012).

Inventory pricing errors is another inherent risk factor which is present at the account balance level. In this case study, One Tel. is also facing the inherent risk of inherent risk of inventory pricing errors. This inherent risk occurs to One Tel because of the huge losses incurred by the company. The reason behind losses is the market penetration by the leaders. In this case study, alteration in processing of transactions increases the inherent risk as the transactions are not processed in conventional manner. The reason behind increase in inherent risk is the ineffectiveness of the new processing system and the incapability of the managers to understand the working of system (Griffiths, 2012). 

It becomes very difficult to find out the high valued goods and goods having no worth in the organization. This increases the level of inherent risk if proper accounts of sales and purchases are not prepared as the organization will not be able to identify profits at stock taking level on regular intervals. The account item which is flat to inherent risk is cash (Bratten et al., 2013). In this case study, One Tel. is also facing the problem of management of sales and purchases accounts which leads the organization towards inherent risk.

Impact of Economic conditions on inherent risk

Going concern states that an organization will continue its business activities and operations in future and has no motive to shut down the business operations. The assets of the company are generally valued on the market price in comparison to the value of asset at the time of liquidation. The factor of going concern can be assessed as low, high or medium (Knechel et al., 2012). This assessment can be done on the basis of operating and financial indicators of the organization through which the going concern concept of the organization can become identifiable.

Operating Indicators indicates the harm to important accounting standards of management without alteration and decrease in large number of dealers will help to analyse the concept of going concern for the organization. If the organization does not follow the legal considerations laid down then it also affect the concept of going concern. Marketing strategies used by the organization in comparison to competitors also helps in determining going concern concept of the organization (Vona, 2012). Organization adaptation to new technology will also determine the basis of going concern.

Financial Indicators shows the level to which both current and noncurrent liabilities exceed the total assets and it also indicates the deficit of current assets when compared to current liabilities. The level of borrowings and the repayment capacity of the organization will help to analyse the assessment of going concern.  If there are huge borrowings and company is not able to pay debts then the rate of going concern concept is low. The company effectiveness in repayment of debt and payment of dividend will also assess the going concern concept (Merna and Al-Thani, 2011). Financial strength of the company will also identify the level of going concern concept in the organization.

References:

Alali, F.A. and Yeh, C.L. (2012) Cloud computing: Overview and risk analysis. Journal of Information Systems, 26(2), pp.13-33.

Arens, A., Best, P., Shailer, G., Fiedler, B., Elder, R., & Beasley, M. (2010) Auditing, assurance services and ethics in Australia: an integrated approach. Pearson Education Australia.

Bratten, B., Gaynor, L.M., McDaniel, L., Montague, N.R. and Sierra, G.E. (2013) The audit of fair values and other estimates: The effects of underlying environmental, task, and auditor-specific factors. Auditing: A Journal of Practice & Theory, 32(sp1), pp.7-44.

Covello, V. T., Flamm, W. G., Rodricks, J. V., & Tardiff, R. G. (Eds.). (2012) The analysis of actual versus perceived risks (Vol. 1). Germany: Springer Science & Business Media.

Elder, R. J., Beasley, M. S., & Arens, A. A. (2011) Auditing and Assurance services. UK: Pearson Higher Ed.

Florea, R. and Florea, R. (2012) The Implications of Inherent Risks' Assessment in Audit Risk Limitation. Economy Transdisciplinarity Cognition,15(1), p.45.

Griffiths, M. P. (2012) Risk-based auditing. UK: Gower Publishing, Ltd.

Hayes, R., Wallage, P., & Gortemaker, H. (2014) Principles of auditing: an introduction to international standards on auditing. UK: Pearson Higher Ed.

Junior, R.M., Best, P.J. and Cotter, J. (2014) Sustainability reporting and assurance: a historical analysis on a world-wide phenomenon. Journal of Business Ethics, 120(1), pp.1-11.

Knechel, W.R., Krishnan, G.V., Pevzner, M., Shefchik, L.B. and Velury, U.K. (2012) Audit quality: Insights from the academic literature. Auditing: A Journal of Practice & Theory, 32(sp1), pp.385-421.

Louwers, T. J., Ramsay, R. J., Sinason, D. H., Strawser, J. R., & Thibodeau, J. C. (2013) Auditing and assurance services. USA: McGraw-Hill.

Purdy, G. (2010) ISO 31000: 2009—setting a new standard for risk management. Risk analysis, 30(6), pp.881-886.

Tuncel, G. and Alpan, G. (2010) Risk assessment and management for supply chain networks: A case study. Computers in industry, 61(3), pp.250-259.

Vona, L. W. (2012) Fraud risk assessment: Building a fraud audit program. USA: John Wiley & Sons.

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