by Auditor’s Response to Assessed Risks refers to the actions and audit procedures designed by the auditor after identifying and assessing the risks of material misstatement in financial statements. After understanding the entity, its environment, and internal control system, the auditor determines the level and nature of risks at the financial statement and assertion levels. The auditor then develops appropriate overall responses and further audit procedures to address those risks. These responses may include assigning experienced audit personnel, increasing supervision, applying greater professional scepticism, testing internal controls, and performing substantive procedures. The nature, timing, and extent of audit procedures depend on the assessed level of risk and the reliability of internal controls. Higher-risk areas generally require more persuasive audit evidence and greater audit attention. The auditor continuously evaluates the evidence obtained and revises the risk assessment when necessary. Thus, an appropriate response to assessed risks helps reduce audit risk, obtain sufficient and appropriate audit evidence, and provide a reasonable basis for expressing an independent audit opinion.
Auditor’s Response to Assessed Risks
1. Understanding the Assessed Risks
The auditor first evaluates the assessed risks of material misstatement identified at the financial statement and assertion levels. The assessment considers the nature, likelihood, and potential magnitude of identified risks. The auditor determines which accounts, transactions, disclosures, and assertions require greater attention. A proper understanding of assessed risks helps the auditor design appropriate responses and allocate audit resources effectively to areas where material misstatements are more likely to occur.
2. Overall Responses to Financial Statement-Level Risks
For risks affecting the financial statements as a whole, the auditor develops overall responses. These may include assigning more experienced audit personnel, increasing supervision, incorporating greater professional scepticism, and modifying the nature, timing, or extent of audit procedures. The auditor may also place less reliance on management representations and increase the level of review. Such responses address pervasive risks and influence the overall audit strategy and audit plan.
3. Designing Further Audit Procedures
The auditor designs further audit procedures that are responsive to assessed risks at the assertion level. These procedures may include tests of controls, substantive procedures, or a combination of both. The nature, timing, and extent of procedures depend on the level and type of risk identified. Higher-risk areas generally require more persuasive evidence. The procedures should be specifically linked to relevant assertions so that they effectively address the assessed risks.
4. Tests of Controls
Where the auditor intends to rely on the effectiveness of internal controls, tests of controls may be performed. These tests determine whether controls have operated effectively during the relevant period. The auditor may examine authorization, segregation of duties, reconciliations, approvals, and other control activities. If controls are found to be ineffective, the auditor may increase substantive testing or modify the audit approach. Tests of controls therefore help determine the extent of reliance that can be placed on internal controls.
5. Substantive Procedures
Substantive procedures are performed to detect material misstatements at the assertion level. They include tests of details and substantive analytical procedures. The auditor may verify transactions, inspect supporting documents, confirm balances, recalculate amounts, and perform analytical comparisons. The extent of substantive procedures is influenced by assessed risks and the reliability of controls. Higher assessed risks generally require more persuasive substantive evidence to support the auditor’s conclusions.
6. Professional Scepticism and Judgement
The auditor responds to assessed risks by applying professional scepticism and professional judgement throughout the audit. Professional scepticism requires the auditor to maintain a questioning mind and critically evaluate audit evidence. The auditor should remain alert to contradictory information, unusual transactions, management bias, and possible fraud. Professional judgement helps determine the appropriate audit procedures, evidence requirements, and responses to identified risks. These qualities are particularly important when risks involve significant estimates or management judgement.
7. Evaluating Audit Evidence and Misstatements
After performing the planned procedures, the auditor evaluates the audit evidence obtained and considers whether identified risks have been appropriately addressed. Any detected misstatements are evaluated individually and collectively, considering their nature and materiality. If evidence is insufficient or contradictory, additional audit procedures may be necessary. The auditor also considers whether the results indicate that the original risk assessment should be revised and whether further areas require investigation.
8. Documentation and Revision of Audit Response
The auditor must properly document the assessed risks, audit responses, procedures performed, evidence obtained, and conclusions reached. If circumstances change or new information emerges, the auditor should reassess the risks and modify the audit procedures when necessary. Documentation provides evidence that the auditor responded appropriately to identified risks and supports effective supervision and review. Proper revision ensures that the audit remains responsive to significant developments throughout the engagement.
