The document discusses the responsibilities of management and auditors with respect to financial reporting, fraud, errors, and non-compliance. It notes that management is responsible for fair financial reporting and internal controls, while auditors are responsible for detecting material misstatements through reasonable assurance. Misstatements may arise from errors, fraud, or non-compliance with laws and regulations. The document further explores the types of fraud and errors, risk factors, and the auditor's responsibilities in the planning, testing, and completion phases of the audit.

2. The fair presentation of the financial statements in
accordance with the applicable financial reporting standards
is the responsibility of the client’s management. The auditor’s
responsibility is to design the audit to provide reasonable
assurance of
detecting material misstatements in the financial
statements. These misstatements may emanate from;
Error
Fraud, and
Noncompliance with laws and Regulations

3. The term “error” refers to unintentional misstatements in
the financial statements, including the omission of an
amount or a disclosure, such as:
 Mathematical or clerical in the underlying records and
accounting data.
 An incorrect accounting estimate arising from oversight
or misinterpretation of facts.
 Mistake in the application of accounting policies.

4. It refers to intentional act by one or more
individuals among management, those charged
with governance, employees, or third parties,
involving the use of deception to obtain an unjust or
illegal advantage. Although fraud is a broad legal
concept, the auditor is primarily concerned with
fraudulent acts that cause a material
misstatements in the financial statements.

5. There are two types of fraud that are relevant to
financial statement audit. Misstatements resulting
from fraudulent financial reporting and
misstatements resulting from misappropriation of
assets.
1. Fraudulent Financial Reporting
2. Misappropriation of assets or Employee Fraud

6.  Manipulation, falsification or alteration of records
or documents.
 Misinterpretation in or intentional omission of the
effects of transactions from records to documents.
 Recording of transactions without substance.
 Intentional misapplication of accounting policies.
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 Embezzling receipts
 Stealing entity’s assets such as cash, marketable
securities, and inventory
 Lapping of accounts receivable

7. Fraud involves motivation to commit it and a perceived
opportunity to do so. For example, an employee might be motivated
to steal company’s assets because this employee lives beyond his
means. Also, a member of management may be forced to
manipulate the financial statements in order to meet an overly
optimistic projection. A perceived opportunity to commit fraud may
exist when there is no proper segregation of duties among
employees or when management believes that internal control can
be easily circumvented.
The primary factor that distinguishes fraud from error is
whether the underlying cause of misstatement in the financial
statements is intentional or unintentional. Although the auditor
may be able to identify opportunities for fraud to be perpetrated, it is
often difficult, for the auditor to determine intent, particularly in
matters involving management judgment, such as accounting
estimates and the appropriate application of accounting principles.
Consequently, the auditor’s responsibility for the detection of
fraud and error is essentially the same.

8. The responsibility for the prevention and
detection of fraud and error rests with both
management and those charged with the governance
of the entity. In this regard, PSA 240 requires:
 Management to establish a control environment
and to implement internal control policies and
procedures designed to ensure, among others, the
detection and prevention of and error.
 Individuals charged with governance of an entity
to ensure the integrity of an entity’s accounting and
financial reporting systems and that appropriate
controls are in place.

9. Although the annual audit of financial
statements may act as deterrent to fraud and error,
the auditor is not and cannot be held responsible for
the prevention of fraud and error. The auditor’s
responsibility is to design the audit to obtain
reasonable assurance that the financial statements
are free from material misstatements, whether
caused by error or fraud.
1. Planning Phase
2. Testing Phase
3. Completion Phase
4. Consider the Effect on the Auditor’s Report

10. Noncompliance refers to acts of omission or
commission by the entity being audited, either
intentional or unintentional, which are contrary to
the prevailing laws or regulations. Such acts
include transactions entered into by, or in the
name of, the entity or on its behalf by its
management or employees. Common examples
include:
 Tax evasion
 Violation of environmental protection laws
 Inside trading of securities

11. It is the management responsibility to ensure
that the entity’s operations are conducted in
accordance with laws and regulations. The
responsibility for the detection of noncompliance
rests with management. (PSA 250)
The following policies and procedures,
among others, may assist management in
discharging its responsibilities for the prevention
and detection of noncompliance:

12.  Monitoring legal requirements and ensuring that
operating procedures are designed to meet these
requirements.
 Instituting and operating appropriate systems of
internal control.
 Developing publicizing and following a Code of
Conduct.
 Ensuring employees are properly trained and
understand the Code of Conduct.
 Monitoring compliance with the Code of Conduct
and acting appropriately to discipline employees
who fail to comply with it.
 Engaging legal advisors to assist in monitoring legal
requirements.
 Maintaining a register of significant laws in which
the entity has to comply within its particular industry
and a record of complaints.

13. Although the annual audit of financial statements may
act as deterrent to fraud and error, the auditor is not
and cannot be held responsible for the prevention of
fraud and error. The auditor’s responsibility is to
design the audit to obtain reasonable assurance that
the financial statements are free from material
misstatements, whether caused by error or fraud.
1. Planning Phase
2. Testing Phase
3. Completion Phase
4. Consider the Effect on the Auditor’s Report

14. The fraud risk factors identified below are
examples of such factors typically faced by
auditor’s in a broad range of situations. However,
the fraud risk factors listed below are only
examples; not all of these factors are likely to be
present in all audits, nor is the list necessarily
complete. Furthermore, the auditor’s exercises
professional judgment when considering fraud risk
factors individually or in combination and whether
there are specific controls that mitigate the risk.

15. Fraud risk factors that relate to misstatements resulting from
fraudulent financial reporting may be grouped in the following three
categories:
1. Management’s characteristics and influence over the Control
Environment.
2. Industry Conditions
3. Operating characteristics and financial stability
For each of these three categories, examples of fraud risk
factors relating to misstatements arising from fraudulent financial
reporting are set out below.
1. Fraud risk factors relating to Management’s Characteristics and
influence over the Control Environment
2. Fraud risk factors relating to Industry Conditions
3. Fraud risk factors relating to operating characteristics and
financial stability

16. It can be grouped into the following
categories:
1. Susceptibility of assets to Misappropriation
2. Controls
The extent of the auditor’s consideration of
the fraud risk factors in category 2 is influenced by
the degree to which fraud risk factors in category 1
are present.
1. Fraud risk factors relating to Susceptibility of
assets to misappropriation
2. Fraud risk factors relating to controls.

17. 1. Fraud risk factors relating to Management’s
Characteristics and influence over the Control
Environment
2. Fraud risk factors relating to Industry Conditions
3. Fraud risk factors relating to operating
characteristics and financial stability