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An Overview of SA 240 (Revised)
Some General Considerations of SA 240 (R)
Management’s/TCWG’s Responsibility:
 Bear the primary responsibility for the prevention and detection of fraud*.
 Committed to create a culture of honesty and ethical behaviour in the entity.
Auditor’s Responsibility:
 To obtain reasonable assurance that the financial statements taken as a whole are
free from material misstatements.
Unavoidable Risk of Material Misstatements:
 As per SA 200 (R) due to the inherent limitations of an audit, there remains an
unavoidable risk that some material misstatements in the financial statements may
remain undetected, even though the audit is properly planned and performed.
* Definition of Fraud: It is the intentional act by one or more individuals among
management, TCWG, employees or third parties, involving deception to obtain
an unjust or illegal advantage.
General Considerations contd.
 Risk (Fraud) > Risk (Error): The risk of material misstatements arising from
undetected frauds is greater than the risk arising from undetected error.
 Risk (Management Fraud) > Risk (Employee Fraud): The risk of material
misstatements arising from not detecting management fraud is higher than the risk
arising from not detecting employee fraud. Management frauds are more difficult to
detect because:
 Their position presupposes their honesty and integrity.
 They can manipulate accounting records.
 They can override internal controls.
 Areas involving Judgment: It is very difficult for the auditor to determine whether
misstatements in judgment area such as accounting estimates are caused by error
or fraud.
Objectives of SA 240 (R)
Identification and Assessment of Fraud Risk: To identify and
assess the risk of material misstatements in the financial statements
due to fraud.
Obtain Audit Evidence: To obtain sufficient appropriate evidence
about assessed risks of material misstatements due to fraud.
Response: To respond appropriately to suspected fraud.
Auditor’s Duty
 Maintain Professional Skepticism.
 Discuss among Engagement Team.
 Carry out Risk Assessment Procedures (RAP), including:
 Enquiries of Management (and others within the entity).
 Enquiries of TCWG.
 Evaluate Unusual or Unexpected Relationships Identified.
 Consider Other Information.
 Evaluate Fraud Risk Factors.
 Identify and Assess Risk of Material Misstatements specially due to
fraud.
 Evaluate Audit Evidence.
 Respond to Assessed Fraud Risk.
 Obtain Management Representation.
 Consider Disengaging.
 Communicate to Management/TCWG.
 Communicate to Regulatory Authorities
 Documentation.
1.Maintain Professional Skepticism
It is an attitude of the auditor that represents a questioning
mind and a critical assessment of audit evidence.
Specifically:
 The auditor considers the possibility of fraud, despite prior
experience of honesty and integrity of the
management/TCWG.
 In the absence of doubtful/suspicious situations auditor may
accept records and documents as genuine.
 If conditions cause the auditor to believe that a document
may not be authentic or that the terms the document may
have been modified, the auditor shall detect further.
 Where responses to inquiries of management/TCWG are
inconsistent, the auditor shall investigate the
inconsistencies.
2. Discussion of Audit Planning among the Engagement
Team How and where, financial statements may contain
frauds.
 Possibility and suspicion of material misstatements.
 Job allocation among audit team.
 How results of the audit procedures followed by the
audit team are to be shared among themselves.
3.Risk Assessment Procedures
(a) Inquiries of management and others within the
entity:
(i) Management’s knowledge of: 1. frauds discovered, 2.
suspected frauds under investigation, 3. material errors
discovered, and 4. weaknesses in control procedures (if any).
(ii) Management’s assessment of fraud risk.
(iii) Obtain understanding and design of accounting and
internal control systems.
(iv) If the entity has an internal audit function: Whether the
internal auditor has identified: 1. any fraud or 2. any serious
internal control weaknesses.
(v) How management communicates to employees its views
on responsible business practices and ethical behaviour, such as
ethics policies or codes of conduct.
3.Risk Assessment Procedures (Continued)
(b) Enquiries of TCWG re:
(1) How TCWG supervise the management
process.
(2) Whether TCWG has any knowledge of any
fraud or internal control weaknesses.
[TCWG includes: 1. Audit Committees, 2. Remuneration Committee,
3. Shareholder’s Grievance Committee, 4. Board of Directors, 5.
Independent Directors, 6. Executive Committee, etc.]
4. Identify and Assess Risks of Material Misstatements
Due to Fraud as per SA 315
5. Respond to Assessed Fraud Risks
Overall Responses:
 Assign and Supervise personnel as per their capability.
 Determine whether the management has tried to manage
earnings by misapplication of accounting policies.
 Incorporate surprise element in the NTE of audit procedures.
Responses at the Assertion Level.
The auditor shall design and perform further audit procedures
whose NTE are responsive of assessed risks of frauds.
Responses to Risks related to Management’s Overriding
of Internal Control.
6. Critical Evaluation of Audit Evidence
 Check whether the results of Analytical Procedures are
consistent with the auditor’s understanding of the
entity and its environment.
 On identifying misstatements , enquire the following:
 Is it due to fraud (or error)?
 Are Management Representations Reliable?
 Reassess Risk of material Misstatements due to fraud.
 Consider impact on the NTE of audit procedures.
 When fraud is confirmed or its possibility cannot be
ruled out, consider the implications of the same for the
audit.
7. Obtain Management Representation
 Acknowledgement for responsibility regarding Internal
Controls.
 Any uncorrected misstatement, considered as not material
by the management.
 That the management has disclosed all facts relating to
suspected frauds.
 Discussions with Auditor.
The Effect of Fraud and Error on Audit Report
 Whether the auditor can confirm his suspicion or is
unable to confirm (but not dispel) suspicion, the effect
of either situation will be reflected in the Auditor’s
Report.
 For this, consider:
 Materiality Aspect [SA 320 (R)]
 Effect on Auditor’s Report [SA 700 (R)]
 Effect on Auditor’s Report:
 Effect not material: QUALIFIED OPINION
 Suspicion Confirmed: ADVERSE OPINION
 Suspicion neither confirmed nor dispelled: DISCLAIMER OF
OPINION.
8. Communication with Management/ TCWG
 Bring the following to the attention of the
management/TCWG:
 Misstatements resulting from ERRORS.
 Misstatements resulting from FRAUDS.
 Material Weaknesses in Internal Control System.
 When the top management/TCWG are not involved in
fraud:
 Report the matter generally to a level of management higher
than the one committing the fraud.
 When the top management/TCWG are involved in
fraud
 Seek Legal Advice.
9. Communication with Regulatory Authorities

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The Auditors Responsibilities Relating to Fraud in an Audit of Financial Statements

  • 1. An Overview of SA 240 (Revised)
  • 2. Some General Considerations of SA 240 (R) Management’s/TCWG’s Responsibility:  Bear the primary responsibility for the prevention and detection of fraud*.  Committed to create a culture of honesty and ethical behaviour in the entity. Auditor’s Responsibility:  To obtain reasonable assurance that the financial statements taken as a whole are free from material misstatements. Unavoidable Risk of Material Misstatements:  As per SA 200 (R) due to the inherent limitations of an audit, there remains an unavoidable risk that some material misstatements in the financial statements may remain undetected, even though the audit is properly planned and performed. * Definition of Fraud: It is the intentional act by one or more individuals among management, TCWG, employees or third parties, involving deception to obtain an unjust or illegal advantage.
  • 3. General Considerations contd.  Risk (Fraud) > Risk (Error): The risk of material misstatements arising from undetected frauds is greater than the risk arising from undetected error.  Risk (Management Fraud) > Risk (Employee Fraud): The risk of material misstatements arising from not detecting management fraud is higher than the risk arising from not detecting employee fraud. Management frauds are more difficult to detect because:  Their position presupposes their honesty and integrity.  They can manipulate accounting records.  They can override internal controls.  Areas involving Judgment: It is very difficult for the auditor to determine whether misstatements in judgment area such as accounting estimates are caused by error or fraud.
  • 4. Objectives of SA 240 (R) Identification and Assessment of Fraud Risk: To identify and assess the risk of material misstatements in the financial statements due to fraud. Obtain Audit Evidence: To obtain sufficient appropriate evidence about assessed risks of material misstatements due to fraud. Response: To respond appropriately to suspected fraud.
  • 5. Auditor’s Duty  Maintain Professional Skepticism.  Discuss among Engagement Team.  Carry out Risk Assessment Procedures (RAP), including:  Enquiries of Management (and others within the entity).  Enquiries of TCWG.  Evaluate Unusual or Unexpected Relationships Identified.  Consider Other Information.  Evaluate Fraud Risk Factors.  Identify and Assess Risk of Material Misstatements specially due to fraud.  Evaluate Audit Evidence.  Respond to Assessed Fraud Risk.  Obtain Management Representation.  Consider Disengaging.  Communicate to Management/TCWG.  Communicate to Regulatory Authorities  Documentation.
  • 6. 1.Maintain Professional Skepticism It is an attitude of the auditor that represents a questioning mind and a critical assessment of audit evidence. Specifically:  The auditor considers the possibility of fraud, despite prior experience of honesty and integrity of the management/TCWG.  In the absence of doubtful/suspicious situations auditor may accept records and documents as genuine.  If conditions cause the auditor to believe that a document may not be authentic or that the terms the document may have been modified, the auditor shall detect further.  Where responses to inquiries of management/TCWG are inconsistent, the auditor shall investigate the inconsistencies.
  • 7. 2. Discussion of Audit Planning among the Engagement Team How and where, financial statements may contain frauds.  Possibility and suspicion of material misstatements.  Job allocation among audit team.  How results of the audit procedures followed by the audit team are to be shared among themselves.
  • 8. 3.Risk Assessment Procedures (a) Inquiries of management and others within the entity: (i) Management’s knowledge of: 1. frauds discovered, 2. suspected frauds under investigation, 3. material errors discovered, and 4. weaknesses in control procedures (if any). (ii) Management’s assessment of fraud risk. (iii) Obtain understanding and design of accounting and internal control systems. (iv) If the entity has an internal audit function: Whether the internal auditor has identified: 1. any fraud or 2. any serious internal control weaknesses. (v) How management communicates to employees its views on responsible business practices and ethical behaviour, such as ethics policies or codes of conduct.
  • 9. 3.Risk Assessment Procedures (Continued) (b) Enquiries of TCWG re: (1) How TCWG supervise the management process. (2) Whether TCWG has any knowledge of any fraud or internal control weaknesses. [TCWG includes: 1. Audit Committees, 2. Remuneration Committee, 3. Shareholder’s Grievance Committee, 4. Board of Directors, 5. Independent Directors, 6. Executive Committee, etc.]
  • 10. 4. Identify and Assess Risks of Material Misstatements Due to Fraud as per SA 315
  • 11. 5. Respond to Assessed Fraud Risks Overall Responses:  Assign and Supervise personnel as per their capability.  Determine whether the management has tried to manage earnings by misapplication of accounting policies.  Incorporate surprise element in the NTE of audit procedures. Responses at the Assertion Level. The auditor shall design and perform further audit procedures whose NTE are responsive of assessed risks of frauds. Responses to Risks related to Management’s Overriding of Internal Control.
  • 12. 6. Critical Evaluation of Audit Evidence  Check whether the results of Analytical Procedures are consistent with the auditor’s understanding of the entity and its environment.  On identifying misstatements , enquire the following:  Is it due to fraud (or error)?  Are Management Representations Reliable?  Reassess Risk of material Misstatements due to fraud.  Consider impact on the NTE of audit procedures.  When fraud is confirmed or its possibility cannot be ruled out, consider the implications of the same for the audit.
  • 13. 7. Obtain Management Representation  Acknowledgement for responsibility regarding Internal Controls.  Any uncorrected misstatement, considered as not material by the management.  That the management has disclosed all facts relating to suspected frauds.  Discussions with Auditor.
  • 14. The Effect of Fraud and Error on Audit Report  Whether the auditor can confirm his suspicion or is unable to confirm (but not dispel) suspicion, the effect of either situation will be reflected in the Auditor’s Report.  For this, consider:  Materiality Aspect [SA 320 (R)]  Effect on Auditor’s Report [SA 700 (R)]  Effect on Auditor’s Report:  Effect not material: QUALIFIED OPINION  Suspicion Confirmed: ADVERSE OPINION  Suspicion neither confirmed nor dispelled: DISCLAIMER OF OPINION.
  • 15. 8. Communication with Management/ TCWG  Bring the following to the attention of the management/TCWG:  Misstatements resulting from ERRORS.  Misstatements resulting from FRAUDS.  Material Weaknesses in Internal Control System.  When the top management/TCWG are not involved in fraud:  Report the matter generally to a level of management higher than the one committing the fraud.  When the top management/TCWG are involved in fraud  Seek Legal Advice.
  • 16. 9. Communication with Regulatory Authorities