1. Auditing 81.3550 Materiality & Risk Chapter 8 Materiality & Risk Chapter 8

2. Highlights Materiality and professional judgment Define the types of risks involved in an audit Examine the risk model and it components relationships Discuss the impact of different risk levels on an audit Examine how risk and materiality are related Materiality and professional judgment Define the types of risks involved in an audit Examine the risk model and it components relationships Discuss the impact of different risk levels on an audit Examine how risk and materiality are related

7. Materiality Relative concept need to consider and compare to something Auditor once sets preliminary level may later adjust it based on the evidence Involves the use of professional judgment to set initial and subsequent levels of materiality Guidelines provided by the CICA and may be also provided by the Firm End decision is the auditors do not have to use these guidelines Relative concept need to consider and compare to something Auditor once sets preliminary level may later adjust it based on the evidence Involves the use of professional judgment to set initial and subsequent levels of materiality Guidelines provided by the CICA and may be also provided by the Firm End decision is the auditors do not have to use these guidelines

8. CCA Research Study Guidelines: Materiality 5-10% of Net Income B4 taxes.5-5 % of Gross Profit.5-1% of Total Assets.5-5% of Shareholders Equity.5-1% of Revenue Weighted average of those items listed above.5-2% of expenses – suggested guidelines for Non-profits

26. Relationship Between Components of Risk Model Audit risk decreases = increased level of assurance req’d = increased amount of evidence req’d Inherent Risk and Detection Risk have inverse relationship example: IR deemed high (holding CR constant) required decreased level of detection risk to hold Audit Risk Level constant = more evidence req’ d to lower DR Inverse relationship between CR and DR = CR increases then DR must decrease holding IR constant = more evidence require to reduce DR See diagram p.222 Audit risk decreases = increased level of assurance req’d = increased amount of evidence req’d Inherent Risk and Detection Risk have inverse relationship example: IR deemed high (holding CR constant) required decreased level of detection risk to hold Audit Risk Level constant = more evidence req’ d to lower DR Inverse relationship between CR and DR = CR increases then DR must decrease holding IR constant = more evidence require to reduce DR See diagram p.222