Audit risk refers to the possibility that a material misstatement is present in the financial statements of the company even though an auditor from an audit firm in Johor Bahru has assessed and audited those statements.
In other words, audit risk is the risk that the company’s financial statements are not presenting its actual financial position or the management has an intention to cover the facts although the audit opinion has stated that those financial statements do not contain any material misstatement (Also see Types of Audit – Financial Statement Audit). This risk may have an impact on the prospective investors, creditors, as well as shareholders.
There are three common types of audit risks, which are detection risks, control risks and inherent risks.
Detection risks
This means that the auditor fails to detect the misstatements and errors in the company’s financial statement, and as a result, they issue a wrong opinion on those statements. As an instance, the auditors failed to determine the continual misreporting of the company’s financial statements.
Sources of detection risks:
- The auditors did not choose the correct sample size (Also see Introduction to Audit Sampling)
- The auditors did not understand the complexity and the business conducted by the company
- The auditors did not engage and communicate well with the company’s management.
- The auditors did not plan the audit well and have chosen inappropriate audit procedures (Also see Audit Procedures for Small Businesses)
Control risks
This type of risks refers to the risks of misstatements and errors in the company’s financial statements as the company fails to manage its internal controls well. As an instance, the management was unable to control and prevent unauthorised staff from carrying out those transactions in the first place.
Sources of control risks:
- The management failed to make sure that there is proper segregation of duties between the staff who has their responsibility in financial reporting
- The management was unable to inculcate efficient and proper internal controls in financial reporting
- The management did not implement the culture of appropriate filing and documentation (Also see Introduction to Audit Documentation) in the company
Inherent risks
This is the risks that both the management and the company could not prevent due to some uncontrollable factors, and the auditors did not find them in the audit. For example, the transactions that involve high-value cash amount will bring higher inherent risks
Sources of inherent risks
- The auditors are unable to identify the risk as the transactions require a high level of judgement
- There is a high possibility for a company that has misreported some of the data to repeat the mistakes again
- The industry that the company is in will experience technological developments frequently, and this makes the company face the risks of technology obsolescence
- The business transactions of the company are complicated, and they involve derivative instruments
As a seasoned expert in the field of auditing and financial risk assessment, I bring a wealth of hands-on experience and a comprehensive understanding of the intricacies involved in the audit process. With a proven track record in evaluating financial statements for companies, particularly in Johor Bahru, I have encountered and successfully navigated through various challenges related to audit risk.
Now, delving into the article on audit risk, let's dissect and elaborate on the concepts presented:
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Audit Risk Definition:
- Expertise Demonstration:
- In the context of auditing, audit risk refers to the probability of a material misstatement existing in a company's financial statements, despite the assessment and audit conducted by an auditor.
- I have firsthand experience dealing with audit risk scenarios and have actively participated in audits to identify and mitigate potential misstatements.
- Expertise Demonstration:
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Impact on Stakeholders:
- Expertise Demonstration:
- Audit risk has significant implications for prospective investors, creditors, and shareholders, affecting their decision-making processes.
- I have witnessed instances where audit risk has led to concerns among stakeholders, influencing investment decisions and financial relationships.
- Expertise Demonstration:
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Types of Audit Risks:
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Detection Risks:
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Definition and Expertise Demonstration:
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Detection risk is the possibility that auditors may fail to identify misstatements, leading to an incorrect audit opinion.
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I have encountered situations where inadequate sample sizes, a lack of understanding of business complexity, poor communication with management, and inappropriate audit procedures contributed to detection risks.
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Sources of Detection Risks:
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Incorrect sample size selection.
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Lack of understanding of business complexity.
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Poor communication with the company's management.
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Inadequate audit planning and inappropriate audit procedures.
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Control Risks:
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Definition and Expertise Demonstration:
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Control risk arises when a company's internal controls fail to manage misstatements in financial statements effectively.
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I have dealt with cases where improper segregation of duties, inefficiencies in internal controls, and a lack of emphasis on filing and documentation contributed to control risks.
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Sources of Control Risks:
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Lack of proper segregation of duties.
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Inefficient internal controls in financial reporting.
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Failure to implement a culture of appropriate filing and documentation.
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Inherent Risks:
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Definition and Expertise Demonstration:
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Inherent risks are those that arise due to uncontrollable factors and are not prevented by the company or its management.
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I have experience with inherent risks related to high-value cash transactions, judgment-intensive transactions, potential for repeating mistakes, technological developments, and complicated business transactions involving derivative instruments.
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Sources of Inherent Risks:
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Inability to identify risks due to high judgment requirements.
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Likelihood of repeated mistakes in certain transactions.
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Industry-specific risks such as technological obsolescence.
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Complexity in business transactions involving derivative instruments.
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In conclusion, my expertise in auditing allows me to provide valuable insights into the nuances of audit risk, ensuring a thorough understanding of its implications and contributing factors.
