Audit risk is the risk that an auditor may give an inappropriate opinion on financial information that is materially mis-stated. For example, an auditor may give an unqualified opinion on financial statements without knowing that they are materially mis-stated. Such risk may exist at overall level or while verifying various transactions and balance-sheet items.
According to SA 200A, on “Objective and scope of Financial Statements”, there is unavoidable risk that even some material misstatements may remain undiscovered due to the test nature and other inherent limitations of any system of internal control. SA-500 on “Audit Evidence” also makes it clear that an auditor’s judgement as to what is sufficient and appropriate audit evidence is affected by the degree of risk of mis-statement. Therefore, it becomes significant that an auditor is aware of risks which are inherent in any audit with reference to materiality of transactions involved and accordingly test and evaluate internal control systems so as to assess the extent of risk. In the following paragraphs, first of all various facts of audit risks are discussed followed by relationship between materiality and audit risk.
Low-risk areas are those which require the application of routine “nuts and bolts” audit procedures in the ordinary course of vouching, casting, checking, etc., at both compliance and substantive stages, usually occupying up to 80% of all audit effort. High-risk areas are those which should be the primary concern of partners and senior managers, and will include such matters as:
(a) Adequacy of provisions;
(b) Full disclosure of liabilities, including contingent liabilities;
(c) Interpretation of SAs and company legislation;
(d) Post–balance sheet review of subsequent events;
(e) Analytical reviews on draft financial statements;
(f) Implications of tax legislation;
(g) Detecting overstatement of assets, e.g. by capitalizing expenditure;
(h) Identifying high-value items and ‘error-prone’ conditions, and
(i) Drafting the audit report itself.