AA - 2023 3 Planning and Materiality

ISA 300 –Planning an Audit of Financial Statements
Audit Strategy
Audit Plan
Audit Strategy
Resources (team / experts) Allocation to Audit Areas

Timing of audit / Reporting
Management, Direction, Supervision (briefing, debriefing,
manager’s /partner’s review, engagement QCR
Audit Plan
Description of Audit Procedures of ISA 315 – Identifying and

Assessing the Risk of Material Misstatements through
Understanding the Entity & its Environment
Description of Audit Procedures of ISA 330 – The Auditor’s

responses to Assessed Risk
Nature, Timing, Extent of supervision & management

(briefing, debriefing, reviews – both manager’s / Partner’s)
Auditors obtain evidence by one or more of the following
procedures.
• Inspection of tangible assets: confirms existence, not
confirm rights and obligations or valuation.
• Inspection of documentation or records: provides
evidence of varying reliability, depending on the nature,
source and effectiveness of controls over production.
Provide evidence of existence (financial instrument), not
necessarily about ownership or value.
• Observation: of limited use, as act of being observed
could affect performance
• Inquiry: alone does not provide sufficient audit evidence
to detect a material misstatement at assertion level nor
is it sufficient to test the operating effectiveness of
controls.
• Recalculation: checking the mathematical accuracy
• Re-performance: auditor's independent execution of
procedures or controls
• Analytical procedures: Investigation of identified
fluctuations and relationships that are inconsistent with
other relevant information or deviate significantly from
predicted amounts.
• Evaluation and review
Evaluate the matters (e.g. materiality, risk, relevant accounting standards, audit evidence) relating
to:
• (i) inventory (ii) standard costing systems (iii) statement of cash flows
• (iv) changes in accounting policy (v) taxation (including deferred tax)
• (vi) segmental reporting (vii) noncurrent assets (viii) fair value (ix) leases
• (x) revenue from contracts with customers (xi) employee benefits
• (xii) government grants (xiii) related parties
• (xiv) earnings per share (xv) impairment
• (xvi) provisions, contingent liabilities and contingent assets
• (xvii) intangible assets (xviii) financial instruments (xix) investment properties
• (xx) share-based payment transactions (xxi) business combinations
• (xxii) assets held for sale and discontinued operations
• (xxiii) events after the end of the reporting period
• (xxiv) the effects of foreign exchange rates (xxv) borrowing costs
Audit Plan is more detailed than strategy
Risk Assessment Procedures - performed early in audit
Result of Risk Assessment
Auditor decides nature and extent of Further Test (Details)
Auditor considers disclosures that are required

ISA 320 – Materiality in Planning and Performing an Audit
Influence Economic Decision Making of Users
Auditor makes professional judgment about materiality
The judgment is not made for specific users

Auditor determines materiality at overall strategy level
Auditor also determines materiality for specific accounts

if these can influence decision making of users
Auditor also determines performance materiality

A misstatement in the financial statements can be considered

material if knowledge of the misstatement will affect a decision of a
reasonable user of the statements
a) Amounts are immaterial (ignored… clean opinion)
b) Amounts are material but do not overshadow the financial
statements as a whole (except for…. Opinion)
c) Amounts are so material or so pervasive that overall fairness of
the statements is in question (… maybe adverse opinion)
• Pervasiveness is when an error affects different parts of FS.
• A misclassification between cash and AR affects two accounts
• Failure to record a material sale affects sales, AR, income tax
expense, and retained earnings etc.
• Both the amount (quantity) and nature (quality) of
misstatements need to be considered i.e. disclosure
• Auditor has to set his own materiality levels – this will
always be a matter of judgment
• Generally, a percentage is applied to a chosen
benchmark as a starting point. The following factors
may affect benchmark:
a) Elements of the financial statements (e.g. assets,
liabilities, equity, revenue, expenses)
b) Whether there are items on which users tend to focus
c) Nature of the entity, industry and economic environment
d) Entity's ownership structure and financing
e) Relative volatility of the benchmark
The following benchmarks and percentages may be
appropriate
• Profit before tax 5%
• Gross profit ½% – 1%
• Revenue ½% – 1%
• Total assets 1% – 2%
• Net assets 2% – 5%
• Profit after tax 5% – 10%
Performance materiality is the amount set by the auditor at

less than materiality for the F/S as a whole to reduce to an
appropriately low level the probability that the aggregate of
misstatements exceeds materiality for the F/S as a whole.
Determining performance materiality is dependent on the
auditor’s professional judgment. It is affected by:
• The nature and extent of misstatements identified in
prior audits
• The auditor’s understanding of the entity
• Result of risk assessment procedures
Materiality has qualitative aspects that can cause
misstatements:
a) Disclosures required by Law i.e. related party
transactions, directors emoluments, fee of NED
b) Disclosures in relation to the industry i.e. research &
development expense
c) Aspect requiring emphasis i.e. newly acquired business
• Inventory = 1,000,000
• Current Asset = 3,000,000
• Net Profit = 2,000,000
• Error in F/S is 100,000 (overstated inventory – wrong
method)
• Error is 10% of inventory, 3.3% of CA, 5% of net profit
If inventory error also results in 150,000 of excess A/R

• Error is 8.3% of CA, and 12.5% of net profit
• Auditor must consider all accounts affected by a
misstatement (pervasiveness).
• Materiality is both about amount (quantity) and nature
(quality) of transactions.
EXAMPLE
Rs ‘000
Revenue 22,000
Gross Profit 3,540
Net Profit 1,200
Non-Current Assets 5,900
Current Assets 6,400
Current Liabilities 4,560
Equity 4,740
ALLOCATE PRELIMINARY JUDGMENT TO
SEGMENTS (TOLERABLE MISSTATEMENT)
• Auditors accumulate evidence by segments (account
balances) rather than for the financial statements as a
whole.
• Most practitioners allocate materiality to BS rather than
P&L, because most P&L misstatements have an equal
effect on the BS ($20,000 overstatement of accounts
receivable is also a $20,000 overstatement of sales).
Estimate total misstatement in the segment (account
balance)
EXAMPLE
Rs ‘000
Cash / Bank 828
Account Receivable 2,884
Inventories 2,639
Other Current Assets 49
ESTIMATE COMBINED MISSTATEMENT
• Auditor documents all misstatements found.
• Known misstatements are those where the auditor can
determine the amount of the misstatement in the
account. (Wrong classification of 10,000 in PPE)
• Likely misstatements
1. Dispute between auditor & management
2. Projected misstatements (3,000 x 10 = 30,000)
Error in sample = 3,000 (sample size of 50,000)
Total population = 500,000
ACCOUNT RECEIVABLE
Rs ‘000
Account Balance 2,884
Sample selected ? 577 (20%)

Error 15
Projected error 15 x 5 75
Tolerable error ?
Auditor’s Judgment ?

AA - 2023 3 Planning and Materiality

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ISA 300 –Planning an Audit of Financial Statements

Resources (team / experts) Allocation to Audit Areas

Description of Audit Procedures of ISA 315 – Identifying and

Description of Audit Procedures of ISA 330 – The Auditor’s

Nature, Timing, Extent of supervision & management

Audit Plan is more detailed than strategy

Risk Assessment Procedures - performed early in audit

Result of Risk Assessment

Auditor decides nature and extent of Further Test (Details)

Auditor considers disclosures that are required

Influence Economic Decision Making of Users

Auditor makes professional judgment about materiality

The judgment is not made for specific users

Auditor determines materiality at overall strategy level

Auditor also determines materiality for specific accounts

Auditor also determines performance materiality

A misstatement in the financial statements can be considered

Performance materiality is the amount set by the auditor at

If inventory error also results in 150,000 of excess A/R

Sample selected ? 577 (20%)

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