CPA Exam — AUDEthics, Professional Responsibilities, and General PrinciplesMedium
A CPA firm is engaged to perform an audit for a non-issuer. During the initial planning phase, the auditor discovers that the client has very informal processes for recording cash receipts, with minimal documentation and no regular reconciliation of bank accounts. This situation primarily affects the auditor's assessment of:
- ADetection risk.
- BEngagement risk.
- CInherent risk.
- DControl risk.
Show answer & explanationAnswer & explanation
Correct answer: D. Control risk.
Informal processes for cash receipts, minimal documentation, and no regular bank reconciliations indicate significant weaknesses in the client's internal controls over cash. These weaknesses directly increase the auditor's assessment of control risk, meaning the risk that a material misstatement will not be prevented or detected by the client's internal controls.
Why the other options are wrong
- A. Detection risk is the risk that the auditor's procedures will not detect a material misstatement; it's affected by control risk but not directly caused by client's internal control weaknesses.
- B. Engagement risk is the risk that the auditor will suffer harm in connection with the engagement; it's a broader concept than the risk of misstatement due to control deficiencies.
- C. Inherent risk is the susceptibility of an assertion to material misstatement, assuming no related controls; while cash is inherently risky, the specific deficiencies described relate to controls.
Control Risk
The risk that a material misstatement that could occur in an assertion will not be prevented or detected on a timely basis by the entity's internal control.
- Assessed by the auditor.
- Relates to the effectiveness of internal controls.
- Higher when internal controls are weak.
Memory trick: AR = IR x CR x DR