Audit Risk & Procedures - Notes
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ebookf4iryAudit Procedures & Risk Summary – Cheat Sheet
1. General Audit Risk and Procedures Framework
Audit Risk Model:
• Audit Risk (AR) = Inherent Risk (IR) × Control Risk (CR) × Detection Risk
(DR)
Common Types of Risk:
• Inherent Risk: Risk of material misstatement without controls.
• Control Risk: Risk that the client’s internal controls won’t catch the misstatement.
• Detection Risk: Risk that auditor procedures won’t detect a misstatement.
2. Revenue (High-Risk Area)
Risks:
• Overstatement of Revenue: Management may inflate revenue to meet targets.
• Cut-off Error: Revenue may be recorded in the wrong period.
• Improper Revenue Recognition: Revenue recognized before services are rendered.
Audit Procedures:
• Occurrence: Vouch a sample of revenue transactions to sales invoices, contracts, and
customer orders.
• Cut-off Testing: Select sales transactions around year-end and ensure they are
recorded in the correct period.
• Subsequent Receipts: Review cash receipts after year-end to confirm receivables and
sales recorded.
• Analytical Procedures: Compare revenue trends to prior years, budgets, or industry
averages.
3. Receivables
Risks:
• Overstatement: Receivables may be overstated if collectibility is in doubt or due to
fictitious sales.
• Uncollectibility: Doubtful debts may not be properly provided for.
Audit Procedures:
• Existence: Send external confirmations to customers to verify balances.
• Valuation: Review the aging of receivables and assess the adequacy of the allowance
for doubtful debts.
• Subsequent Cash Receipts: Verify that receivables are collected after year-end.
• Cut-off Testing: Review sales transactions around year-end for proper cut-off.
4. Inventory
Risks:
• Overvaluation: Inventory may be valued above its net realizable value.
• Existence: Inventory recorded on the books may not exist physically.
• Obsolete or Damaged Stock: Obsolete inventory may not be properly written down.
Audit Procedures:
• Existence: Attend the inventory count and perform test counts.
• Valuation: Test the lower of cost and net realizable value (NRV) by comparing
inventory prices to recent sales and purchase invoices.
• Cut-off: Verify cut-off by reviewing goods received and despatch notes around year-
end.
• Analytical Procedures: Compare inventory turnover and gross margin ratios to
previous years and industry norms.
5. Liabilities
Risks:
• Understatement: Liabilities may be understated or omitted, especially at year-end.
• Unrecorded Liabilities: Management may delay recording expenses to enhance
financial performance.
Audit Procedures:
• Completeness: Review post-year-end payments and check for any unrecorded
liabilities.
• External Confirmations: Send confirmations to major suppliers to verify outstanding
balances.
• Review Board Minutes: Check for any significant commitments or contingencies.
• Analytical Review: Compare payables turnover and expenses against prior years and
budgets.
6. Property, Plant, and Equipment (PPE)
Risks:
• Overstatement: PPE may be carried at an inflated value if not impaired or
depreciation is understated.
• Existence: Assets recorded may not physically exist or be fully depreciated.
• Capitalization of Operating Expenses: Management might capitalize expenses to
boost profits.
Audit Procedures:
• Existence: Physically inspect a sample of significant assets.
• Valuation: Recalculate depreciation for accuracy, and review impairment indicators.
• Ownership: Inspect title deeds and other legal documents for significant assets.
• Additions/Disposals: Vouch additions and disposals to supporting documentation
such as invoices and sales contracts.
7. Cash and Bank
Risks:
• Overstatement/Understatement: Cash balances may be overstated or understated,
especially due to timing issues or fraud.
• Unrecorded Transactions: Bank transactions might not be fully recorded in the
books.
Audit Procedures:
• Bank Reconciliation: Verify the accuracy of the bank reconciliation by agreeing
items to bank statements.
• External Confirmation: Send confirmation requests to banks for account balances
and loan amounts.
• Cut-off Testing: Review transactions around year-end to ensure correct recording.
• Review of Bank Statements: Inspect post-year-end bank statements for any unusual
transactions or unrecorded liabilities.
8. Payroll
Risks:
• Fictitious Employees: Payments may be made to non-existent employees.
• Overstatement: Overpayment of wages, or improper classification of payroll
expenses.
Audit Procedures:
• Existence: Review a sample of employees by vouching payroll records to personnel
files.
• Valuation: Recalculate payroll expense and compare to prior periods.
• Authorization: Check that payroll rates and bonuses are approved by management.
• Analytical Procedures: Compare payroll expenses to previous years, budget, and the
number of employees.
9. Going Concern
Risks:
• Inability to Continue Operations: The company may not have sufficient liquidity or
financial resources to operate in the foreseeable future.
Audit Procedures:
• Cash Flow Projections: Review management's cash flow forecasts and assess their
reasonableness.
• Review Borrowing Facilities: Inspect loan agreements and other finance documents
for compliance with covenants.
• Subsequent Events: Review post-balance-sheet events for any indications of
financial difficulties.
• Analytical Review: Compare the company’s financial ratios and trends (e.g., liquidity
and solvency) to assess its viability.
10. Related Party Transactions
Risks:
• Non-disclosure: Related party transactions may not be disclosed or properly
accounted for.
Audit Procedures:
• Review Board Minutes: Check for any discussion of related party transactions.
• Inspect Contracts: Review contracts or agreements with related parties for
completeness.
• Subsequent Events: Check for any related party transactions occurring after year-
end.
• Analytical Procedures: Compare significant transactions with expected market terms
to identify any anomalies.
11. Subsequent Events
Risks:
• Non-Disclosure: Events occurring after the balance sheet date that require adjustment
or disclosure may not be recognized.
Audit Procedures:
• Inquiry of Management: Ask management about significant events after year-end.
• Review Board Minutes: Look for any discussion of events post-year-end that could
impact the financial statements.
• Inspect Subsequent Transactions: Review transactions and payments occurring
after year-end for any implications.
12. Fraud and Error
Risks:
• Management Override of Controls: Fraud risks arising from intentional
misrepresentation or manipulation of financial reporting.
Audit Procedures:
• Journal Entry Testing: Examine a sample of journal entries, especially unusual or
significant entries near year-end.
• Review of Estimates: Assess the reasonableness of accounting estimates made by
management.
• Related Party Transactions: Pay extra attention to transactions with related parties
for signs of manipulation.
13. Audit of Estimates and Provisions
Risks:
• Overstatement or Understatement: Management may use provisions or estimates to
manipulate financial results (e.g., over-accruing expenses).
Audit Procedures:
• Review Management’s Assumptions: Assess whether assumptions behind estimates
(e.g., for warranty provisions, impairments) are reasonable.
• Subsequent Events: Look for events after year-end that might validate or contradict
estimates made.
• Compare to Industry Norms: Compare estimates and provisions to those of similar
companies in the industry.