Lecture 4 - Advanced Auditing

What is materiality?

Magnitude of misstatements that could influence decisions of FS users.

Which ISA covers materiality?

ISA 320.

What is overall materiality?

Maximum allowable misstatement without affecting user decisions.

What are the six steps in determining materiality?

Stakeholder analysis; select benchmark; adjust for qualitative factors; discuss; determine performance materiality; set clearly trivial level.

What are common benchmarks for materiality?

PBT, revenue, total assets, equity, current assets/liabilities.

What are typical % ranges?

PBT: 5–10%; assets/revenues: 0.5–2%; equity: 1–5%.

What factors influence benchmark choice?

Sector, nature of entity, volatility, ownership, user focus.

When should benchmarks be normalized?

One-offs (impairments, litigation, restructuring).

Give examples of qualitative factors lowering materiality.

Prior misstatements, fraud risk, going concern, covenant pressure.

What is specific materiality?

Lower thresholds for sensitive disclosures.

What is performance materiality?

Lower threshold than overall materiality to reduce aggregation risk.

Normal range for performance materiality?

50–75% of overall materiality.

What factors lower performance materiality?

Weak IC, complex reporting, heavy sampling, prior errors.

What is the clearly trivial threshold?

Amounts inconsequential individually or in total; typically 5–10% of overall materiality.

What does ISA 600 require for group audits?

Component performance materiality; reporting threshold ≤ group trivial.

What is MACM?

Maximum aggregate component materiality.

Formula for MACM?

Group OM × benchmark multiple.

Name three allocation methods.

Equal, proportional, weighted.

What are the two rules for allocation?

(1) Component < group OM; (2) largest components' sum ≤ MACM.

Name items always material regardless of size.

Related parties, profit/loss switches, covenant effects, revenue trend changes, fines/claims, executive pay.

When must materiality be reassessed?

When new information or errors emerge that change risk.