3.3 Assessing Control Risk

Assessing control risk is crucial for auditors to determine the extent of substantive testing needed. This process involves evaluating internal controls, considering factors like effectiveness and the control environment. The assessment impacts the audit risk model and shapes the overall audit strategy.

Control risk assessment influences how auditors design their procedures. By understanding internal control components and effectiveness, auditors can identify potential misstatements and tailor their approach. This assessment helps balance efficiency and thoroughness in the audit process.

Control Risk and Audit Risk

Defining Control Risk

Top images from around the web for Defining Control Risk

• 

  The ISO 31000 standard: Risk management: principles and guidelines View original

  Is this image relevant?

• 

  Talk:Risk Management Framework - Wikipedia View original

  Is this image relevant?

• 

  Stifling, Suffocating, Security? | Black Swan Security View original

  Is this image relevant?

• 

  The ISO 31000 standard: Risk management: principles and guidelines View original

  Is this image relevant?

• 

  Talk:Risk Management Framework - Wikipedia View original

  Is this image relevant?

1 of 3

Top images from around the web for Defining Control Risk

• 

  The ISO 31000 standard: Risk management: principles and guidelines View original

  Is this image relevant?

• 

  Talk:Risk Management Framework - Wikipedia View original

  Is this image relevant?

• 

  Stifling, Suffocating, Security? | Black Swan Security View original

  Is this image relevant?

• 

  The ISO 31000 standard: Risk management: principles and guidelines View original

  Is this image relevant?

• 

  Talk:Risk Management Framework - Wikipedia View original

  Is this image relevant?

1 of 3

• Control risk is the risk that a material misstatement could occur and not be prevented, detected or corrected by the entity's internal control on a timely basis
• It is a component of audit risk, along with inherent risk and detection risk
• The level of control risk impacts the acceptable level of detection risk and influences the nature, timing and extent of audit procedures (substantive testing)

Control Risk in the Audit Risk Model

• Auditors assess control risk as part of the audit risk model to determine the amount of substantive testing required
• The higher the assessed level of control risk, the more audit evidence is needed from substantive procedures
• This assessment helps auditors design an appropriate audit response to address the risks of material misstatement in the financial statements

Factors Influencing Control Risk Assessment

Internal Control Effectiveness

• The effectiveness of the design, implementation and maintenance of internal controls by management influences the auditor's control risk assessment
• Factors considered in assessing control risk include the nature and materiality of misstatements the controls are intended to prevent or detect, the inherent risk of the relevant assertion, and the competence and authority of personnel involved in the controls
• Results of tests of controls, including identified deviations and deficiencies, impact the auditor's assessment of control risk (deviations suggest higher control risk than planned)

Control Environment

• The control environment, including management's philosophy, operating style, and assignment of authority, influences the auditor's expectations about the operating effectiveness of controls
• A strong control environment can help mitigate risks arising from other areas, while a weak control environment may undermine the effectiveness of specific controls
• Auditors consider factors such as integrity and ethical values, commitment to competence, board of directors' oversight, and human resource policies when evaluating the control environment

Effectiveness of Internal Controls

Understanding Internal Control

• Auditors obtain an understanding of internal control relevant to the audit to identify types of potential misstatements, consider factors that affect risks of material misstatement, and design further audit procedures
• This understanding includes evaluating the design of controls and determining whether they have been implemented
• Auditors focus on controls that address significant risks or risks for which substantive procedures alone do not provide sufficient appropriate audit evidence

Key Components of Internal Control

• Control activities are policies and procedures that help ensure management directives are carried out (segregation of duties, authorizations, verifications, reconciliations, business performance reviews)
• Information and communication systems initiate, record, process and report transactions; relevant information must be identified, captured and communicated to enable personnel to carry out responsibilities
• Monitoring of controls involves assessing their effectiveness over time through ongoing monitoring activities, separate evaluations, or a combination of the two (management review, internal audit)

Risk Assessment Based on Internal Control

• Based on the understanding obtained, auditors identify and assess risks of material misstatement at the financial statement and assertion levels to provide a basis for designing and performing further audit procedures
• Risks are assessed in terms of likelihood and magnitude, considering both quantitative and qualitative factors
• Auditors consider the potential for fraud, changes in the entity's environment, and results of previous audits when identifying and assessing risks

Control Risk Assessment for Audits

Maximum vs. Below Maximum Assessment

• Auditors assess control risk at the maximum level when controls are unlikely to pertain to an assertion, are unlikely to be effective, or evaluating their effectiveness would be inefficient
• Assessing control risk below the maximum level involves identifying specific controls relevant to specific assertions that are likely to prevent or detect material misstatements, and performing tests of those controls
• Testing the operating effectiveness of controls provides evidence for assessing control risk below maximum (inquiry, observation, inspection of documentation, reperformance)

Documenting the Control Risk Assessment

• Auditors document their basis for conclusions about the assessed level of control risk, which should be supported by sufficient appropriate audit evidence
• Documentation includes the identified controls, the testing performed and results, and the auditor's conclusions about control effectiveness
• When control risk is assessed below maximum, auditors design substantive procedures to reflect the assessed level, considering the sufficiency and appropriateness of audit evidence from planned tests of controls

Responding to Assessed Control Risk

• If the assessed level of control risk is lower than expected, auditors may need to revise the overall audit strategy and audit plan to obtain more persuasive audit evidence or perform further tests of controls
• Conversely, if control risk is assessed higher than expected, auditors may need to increase the extent of substantive procedures or modify the nature and timing of planned procedures
• Auditors should communicate significant deficiencies and material weaknesses in internal control to management and those charged with governance in a timely manner