Auditing is important in all organizations in the world since it enables the preparers of financial statements to provide a true and fair view of these documents. In addition, auditing enhances transparency in reporting. It also ensures that there is little or no manipulation of accounts in the organization (Arens 2). One of the important aspects in auditing is the audit risk model. This model explains the various risks that are associated with auditing. The model describes risk as the probability that there will be inappropriate use of auditor’s independence in the provision of opinions regarding financial statements.
One of the risks associated with auditing is the inherent risk. This is the probability that the accounting system contains transactions that have been misstated. In addition, the misstatements in these accounts are material. The probability that there is weak internal control system in the organization is called control risk. This means that this system is not able to detect misstatements that have a high materiality level. The probability that there will be no evidence of misstatements of high materiality level produced by audit procedures is called detection risk (Arens 4). When substantive procedures are not effective in detecting misstatements that may affect financial reporting, the situation may also be referred to as detection risk.
One of the tests that are needed in risk management is the test of controls. This ensures that the internal control system is working effectively. This test prevents control risk. Substantive tests involve the in-depth testing of transitions to ensure that they have no misstatements. These tests also prevent control risk. Balance sheet test is also an important test that is used to mitigate audit risks. This type of test involves tracing transactions from the accounts to the balance sheet in order to test their validity. Analytical procedures are also important in reducing and mitigating audit risk. These procedures involve the comparison of current transactions with previous period transactions in order to test divergences. The fifth type of test meant to mitigate audit risk is the use of risk assessment procedures (Arens 7). These procedures involve investigating items that increase the level of audit risk in the organization. In the audit risk model, inherent risk and control risk form the risk material misstatement.
The Coso internal control framework explains how internal control should be undertaken in an organization in order to achieve major objectives. According to this framework, one of the advantages of internal control is that it enables an organization to maintain effectiveness in the operation of its activities (Arens 7). This means that there will be less time spent in correcting plenty of errors in the accounting systems. This framework also argues that effective internal controls enable the management to prepare financial statements that reflect true opinion of the auditors. This ensures that the financial reports prepared are reliable. The Coso framework also induces organizations to conduct its activities in accordance to the laws that are applicable to them.
There are four concepts that are fundamental in explaining the aspects of the Coso report. One of the fundamental concepts is that internal control enables an organization to get into the process of achieving its objectives. This is done through the effective control of activities undertaken in the company. The other concept argues that in the establishment of objectives, the management should also be involved in the implementation of effective controls. The management should be capable of operating these controls. The third concept argues that internal controls are an assurance that the targets of a company will be attained. According to this framework, this kind of assurance is reasonable and not absolute. The fourth fundamental framework indicates that installing a strong internal control system will enable the company to achieve its short term and long term goals (Arens 10).
Materiality is a concept that indicates the value of misstatements that have not been corrected in the financial statements. This concept may also be important in evaluating these misstatements in the published accounts. Materiality has two important levels; high and low. High materiality level indicates that there are many misstatements in the financial statements (Arens 11). This level of materiality may affect the decision of the users of financial statements. For instance, if the profit of an organization is largely misstated, the public may have a wrong perception that this is the perfect company to invest. If there is low materiality level, there would be little or no effect in the final statements presented to the public users.
Every auditor should choose an effective materiality level. Auditors should ensure that the number of misstatements should not fall below this level. If the materiality level exceeds the set level, the auditor should undertake the necessary procedures to ensure that the associated misstatements are corrected. The setting of materiality level involves personal judgment. The judging criteria may be categorized according to the size of the materiality or depending on the type of the items being tested. Tolerable misstatement is one that is associated with low materiality level. This misstatement can be ignored by the auditor since it does not have significant impact in the financial statements. The auditor uses personal judgment to establish the tolerable misstatements in the financial accounts. In setting the materiality level, the auditor should also consider the cumulative effects of the materiality and the circumstances surrounding the occurrence of the misstatements. There are two types of approaches used in measuring materiality; top down and bottom down approaches.
Internal control system ensures that there is effective maintenance and supervision in the accounting system of a company. The operation of internal control system involves performing certain procedures. If the internal system of the client is computerized, it is important to conduct control procedures to the sale processes. Firstly, the auditor should ensure that he understands the nature of the client’s system. This enables the auditor to collect important information that may be required in the process of auditing. This will also enable the auditor to know the timing of sales transactions and the audit tests to be conducted (Arens 12).
The auditor should test the validity of the sale transactions in order to test whether the management was right in approving the sale transactions or not. In addition, the auditor should test whether all the approved transactions regarding sales have been documented in the computerized system. This will ensure effective testing of the completeness of the transactions. The auditor should also test the computer systems to confirm whether the sale transactions have been authorized (Arens 14). If he finds transactions that are not authorized, then the management should be advised that there may be a manipulation of account by the relevant staff.
The computer system should be checked in order to test the accuracy of the approved sales. In addition, the auditor should check whether the sale transactions are entered in the correct accounts. He should also check whether the transactions for each financial period are properly recorded. If these tests are not satisfactory, they may affect the audit evidence in sales. The major effect is that they may not guarantee sufficient audit evidence to make prompt advice to the management. In addition, the evidence may not be adequate to give a true view of the financial statements.
In conclusion, the work of the auditors is important in all organizations since it helps the company to provide financial statements that are reliable. The preparation of reliable accounts enables external users of financial statements to make prompt decisions regarding investment and provision of supplies. Auditing also ensures that an organization conforms to its overall plan. This enables the management to work effectively towards the achievement of its goals.
Work Cited
Arens, E. (2012) Auditing and Assurance Services: An Integrated Approach. Prentice. Prentice Hall.
