Auditing risks refer to the risks an auditor’s work is exposed to while auditing. There could be some mistakes unrecognized by the auditor that lead to wrong auditing results which even might lead an unqualified report which may not be the actual case. There are times when an auditor fails to recognize any misstatement or error and makes a report while the prospective error is right there.
It is important that the auditor is experienced in detecting the auditing risks, and in checking for any misstatement to guard against an unethical or incorrect report being issued. The auditor must have reasons and responses to the possible misstatements.
For that, it is important that the auditor follows the possible auditing risk model which states three different types of possible auditing risk components.
What Is Audit Risk?
Audit risk is a term that is used in the field of auditing to describe the risk that auditors may not be able to achieve the objectives of the audit. Audit risk is a significant issue because if auditors are not able to, in the course of the audit, satisfy the audit objectives, they may not be able to provide an independent, objective opinion on the financial statements that they audit. Audit risk is therefore very important to auditors, audit committees and audit clients alike.
Why do auditors need to perform a risk assessment?
Companies face a lot of risks in their day-to-day operations. Some of these risks are known and have strategies in place to mitigate them. Others are not known and are hidden in the shadows. It is these hidden risks that are often the most dangerous.
A risk assessment is a process through which auditors analyze the company’s operations and determine the risks that the company is exposed to. A risk assessment is necessary to ensure that companies have identified the risks they are exposed to.
A risk assessment is also used to help companies design their risk management strategies. In order to perform a risk assessment, auditors need to analyze the company’s operations. By analyzing the operations of a company, auditors can determine what the company is doing, what risks it faces and how the company is exposed to these risks.
This helps the auditor focus on the areas with the biggest risks first and follow a risk based auditing approach.
Types of Auditing Risks
Different auditing risks refer to different errors and reasons which may increase the existence of a misstament in financial reports. Here are the three types of auditing risks.
what is inherent risk?
Inherent risk refers to the risks that are present in the business being audited. Inherent risk is a key element in the risk-based audit approach. Inherent risk, as the name suggests, is the risk that is a part of the business. It is the risk that cannot be eliminated, but can be mitigated. Inherent risk is so called because it is inherent in the business, meaning that it is an integral part of the business activity. Inherent risk includes errors, fraud, and intentional misstatements.
Inherent risk is the risk that can be found in every stage of an audit. Inherent risk is a risk that is present regardless of the environment or controls that are in place. An auditor knows that inherent risk is always present and it may be a challenge to reduce it.
However, inherent risk is not always harmful. For example, inherent risk is present in every stage of a manufacturing process, yet the inherent risk is not harmful to the production of a good. Without inherent risk, there would be no manufacturing process.
Inherent risk can be used to your advantage. For example, inherent risk can also be used to help you find fraud. An auditor can detect fraud by identifying inherent risk and then using that inherent risk to find where fraud occurs.
What is Control Risk?
Control risk is the risk of whether the controls over the control objectives operate effectively, and it is a major part of the risk assessment performed by auditors. If a control is not effective, then it cannot be relied on to prevent or detect errors, irregularities and fraud, and the organization needs to take appropriate action to address the control deficiency.
What is Detection Risk?
Detection risk is one of the most important concepts in auditing. It refers to the risk that the auditor will fail to detect a material misstatement when it exists, despite performing all his auditing procedures. Detection risk is related to the auditor’s design of the scope of an audit and what procedures the auditor uses to test the financial statements. The auditor can control some of the risk but it is the responsibility of management to provide the auditor with sufficient evidence to correctly identify material misstatements.
This risk means that the auditor making the auditing reports failed to see the misstatements or financial errors in the company. And this leads to wrong statements made on the audit reports and the misreporting continues.
Here are the sources that may lead to detection risks.
- The auditor may not have understood the company’s business and its complexity properly.
- The right samples may not have been used by the auditor.
- The auditor failed to communicate with the company.
- The auditor may have made the auditing half-heartedly, and chose the wrong and inappropriate auditing procedures.
Tips to Identify Auditing Risks
- When you are planning the audit, check for the client’s precise risks. If you want to know what that risk is, you must first get familiar with the entity and for that, you should always ask lots of questions from your client. Don’t just shy away from asking questions, ask them away to reduce the risk of auditing errors.
- To understand the potential risk, you need to understand your clients’ businesses. For that, you need to understand your client’s accounts and other activities. You must clear out your intentions to your client, and that is to understand better about their business to make a good audit and reduce any risk.
- You can take the help of the COSO, the committee of sponsoring organizations of the Treadway commission so that you can grasp the idea of the audit you are making, and detect your clients’ controls.
Steps to Identify Auditing Risks
There are a few steps that help you to identify the potential risk when you are auditing any report. An auditor can use these steps to identify the misstatements easily in the starting so that they can easily perform auditing procedures.
- You must understand the potential risks and the environment of the entity. In this way, identifying the risk may be easier.
- When you have found the potential risk, assess its effect on the reporting or the financial statement.
- Now you need to check the risk by performing audit procedures and gain assurance to form an opinion on how the risk has impacted the organization.
- The last thing you need to consider is the possibility of this risk and how it will impact your financial statements.