Task #$2$ Determining the overall risk assessment and developing the substantive

audit program

Learning Objective $/$Background

For each significant financial statement account assertion, the inherent risk and control risk are

assessed. The work performed around understanding the business provides the inherent risk

assessment, while the results of any control testing provide the control risk assessment. This

risk of material misstatement determines the nature, timing, and extent of the substantive

procedures to be performed; that is$,$ the detection risk to be mitigated by auditors. The risk of

material misstatement is determined using the following matrix:

Inherent

Risk

Control Risk

Low Medium High

Low Lowest Lower Medium

Medium Lower Medium Higher

High Medium Higher Highest

There is an inverse relationship between the risk of material misstatement and detection risk

$($DR$).$ If the risk of material misstatement is high, there is adequate evidence to conclude that

the risk of an error occurring is likely and that the controls in place are not operating effectively

to prevent or detect an error. Consequently, the level of detection risk is low, which means the

auditor needs to perform significant substantive procedures to ensure errors do not exist in the

financial statements. If the risk of material misstatement is low, then there is a lower risk of

errors, and the controls can be relied upon, therefore controls will be tested. However, recall

some substantive testing is still required. Where it is concluded there is medium risk, there is

limited control testing, and they are not to be relied upon, and substantive procedures will be

highly relied upon.

Required

Based on your conclusions from work performed thus far, for only the accounts and assertions

listed in the table below, complete the work sheet to determine the risk of material

misstatement and the acceptable DR $($indicate whether the risk has been assessed as low,

medium or high$).$ Then, design substantive audit procedures that would address the DR for

each of the three accounts: $(1)$ Cash, $(2)$ Accounts Receivable $($do not include the Allowance for

Doubtful Accounts$),$ and $(3)$ Sales. When determining testing thresholds for the detailed

procedures, considering using performance materiality.