At 06 Audit Planning
At 06 Audit Planning
At 06 Audit Planning
06
AUDIT PLANNING
RAYMUND FRANCIS A. ESCALA, CPA, MBA
AUDIT PLANNING
RAYMUND FRANCIS A. ESCALA, CPA MBA
Roles of planning
Adequate planning benefits the audit of financial statements in several ways, including the following:
Helping the auditor to devote appropriate attention to important areas of the audit
Helping the auditor identify and resolve potential problems on a timely basis
Helping the auditor properly organize and manage the audit engagement so that it is performed in an effective
and efficient manner
Assisting in the selection of engagement team members with appropriate levels of capabilities and competence to
respond to anticipated risks, and the proper assignment of work to them
Facilitating the direction and supervision of engagement team members and the review of their work
Assisting, where applicable, in coordination of work done by auditors of components and experts
Moreover, the auditor shall update and change the overall audit strategy and the audit plan as necessary during the
course of the audit.
Documentation
The auditor shall document:
1. The overall audit strategy;
2. The audit plan; and
3. Any significant changes made during the audit engagement to the overall audit strategy or the audit plan, and the
reasons for such changes.
(074) 665 6774 0916 840 0661 [email protected] MAY 2021 CPA REVIEW SEASON
Page 2 of 11 | AUD Handouts No. 06
AUDIT PROCEDURES
1. Obtain an understanding of the entity and its environment, including its internal control
Specific procedures
a. Inquiry
Inquiries during planning stage
Much of the information obtained by the auditor’s inquiries is obtained from management and those
responsible for financial reporting. However, the auditor may also obtain information, or a different
perspective in identifying risks of material misstatement, through inquiries of others within the entity and other
employees with different levels of authority. For example:
• those charged with governance
• internal audit personnel
• employees involved in initiating, processing or recording complex or unusual transactions
• in-house legal counsel
• marketing or sales personnel
b. Observation
Auditor aims to obtain an understanding of the entity thru observation of entity’s:
• processes used in processing information to be reported; and
• activities and operations.
c. Inspection
Inspection during planning stage
The auditor can obtain an understanding of the entity through the following inspection activities during
planning:
• Review of prior year’s working papers and prior year’s financial statements
• Review of reports prepared by the entity’s management (such as quarterly management reports and
interim financial statements) and those charged with governance (such as minutes of board of
directors’ meetings)
• Review of documents (such as business plans and strategies), records, and internal control manuals
• Reading articles, books, periodicals, and other publications related to the entity’s industry
• Visits to the entity’s premises and plant facilities
d. Analytical procedures
A basic premise underlying the application of analytical procedures is that plausible relationships among data
may reasonably be expected to exist and continue in the absence of known conditions to the contrary.
2. Consider materiality
Definition
Information is material if its omission or misstatement could influence the economic decisions of users taken on
the basis of the financial statements. Materiality depends on the size of the item or error judged in the particular
circumstances of its omission or misstatement.
The concept of materiality recognizes that some matters, but not all, are important for fair presentation of the
financial statements in conformity with PFRS.
Uses of materiality
Accordingly, materiality should be considered by the auditor in the following phases:
a. Planning phase
To identify and assess the risks of material misstatement;
To determine the nature, timing and extent of further audit procedures
b. Completion phase
To evaluate the effect of uncorrected misstatements, if any, on the financial statements and in forming the
opinion in the auditor’s report
Determination of materiality
The auditor’s determination of materiality is a matter of professional judgment, and is affected by the auditor’s
perception of the financial information needs of users of the financial statements.
Using professional judgment, auditor is required to determine the following three different levels of materiality.
1. Materiality for the financial statements as a whole
the materiality determined at the overall financial statement level
represented by the smallest aggregate amount of misstatement applicable to all financial statements
it helps the auditor determine whether the proposed audit adjustments are significant or not
if the audit adjustments exceed this level, the auditor may need to adjust the financial statements
In determining the specific materiality, the auditor normally considers the following factors:
laws and regulations (e.g. related party transactions)
financial reporting framework
key industry disclosures of the entity
particular aspects of the entity’s business
understanding of the view of those charged with governance and management
3. Performance materiality
the amount or amounts set by the auditor at less than materiality for the financial statements as a whole
to reduce to an appropriately low level the probability that the aggregate of uncorrected and undetected
misstatements exceeds materiality for the financial statements as a whole
also refers to the amount or amounts set by the auditor at less than the materiality level or levels for
particular classes of transactions, account balances or disclosures
calculated as a certain percentage of overall materiality in order to capture any uncorrected
misstatements, the total amount of which may exceed overall materiality
used in scoping of financial statement line items to be tested by the auditor and ensures that significant
accounts in the financial statements are covered by audit testing
In determining performance materiality, an understanding of the following factors may affect the auditor’s
judgment such as:
nature of the entity’s business and transactions
risk assessment procedures
nature and extent of misstatements identified in previous audits
AUDIT RISK
Definition
Audit risk is the risk that the auditor gives an inappropriate audit opinion when the financial statements are
materially misstated.
b. Risk of not Detecting the Misstatement (more popularly known as detection risk)
• Detection Risk is the risk that the auditor’s substantive procedures will not detect a misstatement that
exists in an account balance or class of transactions that could be material, individually or when
aggregated with misstatements in other balances or classes.
These components may be expressed in a formula which shows how they will comprise the audit risk:
5. Identify detection risk to determine the nature, timing and extent of further audit procedures
Definition
As defined previously, detection risk is the risk that the auditor’s substantive procedures will not detect a
misstatement that exists in an account balance or class of transactions that could be material, individually or when
aggregated with misstatements in other balances or classes.
The need for a statutory audit of standalone financial statements in addition to an audit for consolidation
purposes.
The availability of the work of internal auditors and the extent of the auditor’s potential reliance on such work.
The entity’s use of service organizations and how the auditor may obtain evidence concerning the design or
operation of controls performed by them.
The expected use of audit evidence obtained in previous audits, for example, audit evidence related to risk
assessment procedures and tests of controls.
The effect of information technology on the audit procedures, including the availability of data and the expected
use of computer-assisted audit techniques.
The coordination of the expected coverage and timing of the audit work with any reviews of interim financial
information and the effect on the audit of the information obtained during such reviews.
The availability of client personnel and data.
Significant Factors, Preliminary Engagement Activities, and Knowledge Gained on Other Engagements
The determination of appropriate materiality levels, including:
1) Setting materiality for planning purposes.
2) Setting and communicating materiality for auditors of components.
3) Reconsidering materiality as audit procedures are performed during the course of the audit.
4) Preliminary identification of material components and account balances.
Preliminary identification of areas where there may be a higher risk of material misstatement.
The impact of the assessed risk of material misstatement at the overall financial statement level on direction,
supervision and review.
The manner in which the auditor emphasizes to engagement team members the need to maintain a questioning
mind and to exercise professional skepticism in gathering and evaluating audit evidence.
Results of previous audits that involved evaluating the operating effectiveness of internal control, including the
nature of identified weaknesses and action taken to address them.
The discussion of matters that may affect the audit with firm personnel responsible for performing other services
to the entity.
Evidence of management's commitment to the design, implementation and maintenance of sound internal control,
including evidence of appropriate documentation of such internal control.
Volume of transactions, which may determine whether it is more efficient for the auditor to rely on internal control.
Importance attached to internal control throughout the entity to the successful operation of the business.
Significant business developments affecting the entity, including changes in information technology and business
processes, changes in key management, and acquisitions, mergers and divestments.
Significant industry developments such as changes in industry regulations and new reporting requirements.
Significant changes in the financial reporting framework, such as changes in accounting standards.
Other significant relevant developments, such as changes in the legal environment affecting the entity.
Important note:
When establishing the overall audit strategy, the auditor aims to create a strategy or approach that will result to an
effective and efficient audit. Thus, appropriate levels of materiality and audit risk must be considered carefully.
Audit program
The form and content of the audit program may vary for each particular engagement but would generally contain the
following:
The audit objectives for each area;
The nature, timing, and extent of audit procedures required to implement the overall audit plan; and
A time budget in which hours are budgeted for the various audit areas or procedures.
When using the work of an auditor’s expert, the following shall be considered by the auditor
Selecting an expert
Obtaining an understanding of the field of expertise of the expert
Considering the nature, timing and extent of audit procedures
Consultation
When an audit is carried out entirely by an audit engagement partner, who may be a sole practitioner, it may be
desirable to consult with other suitably-experienced auditors or the auditor’s professional body.
ILLUSTRATIVE QUIZZERS
1. Which of the following statements is/are correct?
Statement 1: The client should plan the audit work so that the audit will be performed in an effective manner.
Statement 2: The auditor should conduct the audit with an attitude of professional skepticism.
Statement 3: The auditor should develop and document an overall audit plan describing the scope and conduct of the
audit.
A. Only one statement is correct
B. Only two statements are correct
C. All statements are correct
D. All statements are incorrect
2. Adequate planning of the audit work helps the auditor of accomplishing the following objectives, except:
A. Gathering of all corroborating audit evidence.
B. Ensuring that appropriate attention is devoted to important areas of the audit.
C. Identifying the areas that need a service of an expert.
D. The audit work is completed efficiently.
7. Which of the following is least likely considered by the CPA when he makes an overall audit plan?
A. Identification of complex accounting areas including those involving accounting estimates
B. The effect of information technology on the audit
C. The content of the representation letters
D. The nature and timing of reports and other communication with the entity that are expected under the
engagement
9. Audit procedures may be classified as risk assessment procedures and further audit procedures. Which of the
following best describes risk assessment procedures?
A. These procedures test the operating effectiveness of controls in preventing, or detecting and correcting, material
misstatements at the assertion level.
B. These procedures are used detect material misstatements at the assertion level.
C. These are procedures for obtaining an understanding of the entity and its environment, including its internal
control, to assess the risks of material misstatement at the financial statement and assertion levels.
D. These procedures include tests of details of classes of transactions, account balances, and disclosures and
analytical procedures.
12. The primary purpose for obtaining and understanding of an entity's internal control is to
A. Determine the nature, timing and extent of tests to be performed in the audit.
B. Obtain sufficient appropriate audit evidence from which to draw conclusion as a basis for forming an opinion on
the financial statements.
C. Test whether controls are suitable designed, implemented and operating effectively.
D. Determine whether to accept or reject an audit engagement.
16. The auditor’s aim in performing analytical procedures in planning an audit is to identify the existence of
A. Matters not previously addressed or for which previous conclusions were no longer appropriate
B. Material misstatements
C. Fraud
D. Unusual transactions and events
18. It is the risk that the auditor gives an opinion that the financial statements are fairly presented when they are not.
A. Audit risk
B. Inherent risk
C. Control risk
D. Detection risk
21. Inherent risk and control risk differ from detection risk in that inherent risk and control risk are:
A. Elements of audit risk while detection risk is not.
B. Changes at the auditor’s discretion while detection risk is not.
C. Considered at the individual account balance level while detection risk is not.
D. Functions of the client and its environment while detection risk is not.
22. The risk of material misstatement is related to detection risk in what manner?
A. Direct
B. Inverse
C. Proportional
D. Indeterminable
23. When the combined assessed level of inherent and control risks is high, detection risk is set
A. At the same level
B. High
C. Low
D. At zero
25. Which of the following would an auditor most likely use in determining the auditor’s preliminary judgment about
materiality?
A. The anticipated sample size of the planned substantive tests.
B. The entity’s annualized interim financial statements.
C. The results of the internal control questionnaire.
D. The contents of the management representation letter.
27. In considering materiality for planning purposes, the auditor believes that misstatements aggregating P60,000 would
have material effect on an entity’s income statement, but that misstatements would have to aggregate P40,000 to
materially affect the statement of financial position. Ordinarily, it would be appropriate to design auditing procedures
that would be expected to detect misstatements that aggregate:
A. P40,000
B. P50,000
C. P60,000
D. P100,000
28. In connection with the planning phase of an audit engagement, which of the following statements is always correct?
A. Final staffing decisions must be made prior to completion of the planning stage.
B. Observation of inventory count should be performed at year-end.
C. A portion of the audit of a continuing audit client can be performed at interim dates.
D. An engagement should not be accepted after the client’s financial year-end
29. A retailing entity uses the Internet to execute and record its purchase transactions. The entity's auditor recognizes that
the documentation of details of transactions will be retained for only a short period of time. To compensate for this
limitation, the auditor most likely would:
A. Compare a sample of paid vendors' invoices to the receiving records at year-end.
B. Plan for a large measure of tolerable misstatement in substantive tests.
C. Perform tests several times during the year, rather than only at year-end.
D. Increase the sample of transactions to be selected for cutoff tests.
30. The auditor should plan the nature, timing and extent of direction and supervision of engagement team members and
review their work. Which of the following statements is incorrect regarding direction, supervision and review?
A. The auditor plans the nature, timing, and extent of direction and supervision of engagement team members based
on the assessed risk of material misstatement.
B. As the assessed risk of material misstatement increases, for the area of audit risk, the auditor ordinarily increases
the extent and timeliness of direction and supervision of engagement team members.
C. As the assessed risk of material misstatement decreases, for the area of audit risk, the auditor performs a more
detailed review of their work.
D. The auditor plans the nature, timing and extent of the review of the team’s work based on the capabilities and
competence of the individual team members performing the audit work.
“Continuous effort, not strength or intelligence, is the key to unlocking our potential”