CPA Exam — AUDEthics, Professional Responsibilities, and General PrinciplesMedium
A CPA firm is performing an audit. The client is a small, owner-managed business with limited segregation of duties. The auditor determines that the risk of material misstatement due to management override of internal controls is high. Which of the following is the most appropriate response by the auditor to this risk?
- AReduce the overall scope of the audit due to inherent limitations of internal control.
- BIssue a disclaimer of opinion due to the inability to rely on internal controls.
- CIncrease the extent of substantive analytical procedures.
- DPerform more extensive tests of details on significant account balances and transactions.
Show answer & explanationAnswer & explanation
Correct answer: D. Perform more extensive tests of details on significant account balances and transactions.
When the risk of management override is high, the auditor cannot rely on internal controls and must increase the detection risk. This is best achieved by performing more extensive tests of details on significant account balances and transactions to directly verify their validity and accuracy.
Why the other options are wrong
- A. Reducing the audit scope would be inappropriate and would fail to address the heightened risk of material misstatement.
- B. A disclaimer is an extreme measure and typically reserved for situations where sufficient appropriate evidence cannot be obtained at all, not merely due to high override risk that can be compensated for by substantive testing.
- C. Substantive analytical procedures alone may not be sufficient when override risk is high, as management could manipulate underlying data.
Management Override Risk
The risk that management, despite the existence of effective internal controls, can circumvent or override those controls, leading to material misstatements in the financial statements.
- Considered a pervasive fraud risk factor in all audits.
- Requires specific audit responses, even if controls are otherwise effective.
- Often involves sophisticated methods to conceal misstatements.
Memory trick: When management's hand tries to stray, more detailed tests will light the way.