Materiality in Auditing - Essay Example

Materiality in Auditing Table of Contents Introduction 3 Importance of Materiality in Audit 3 Eliminating Risks of Non-Disclosures 4 Controlling Risks 4 Abolition of Inherent Risks 5 Materiality Levels and Secrecy in Audits 5 Implications of Audit Reporting and Regulation in relation to Audit Materiality 6 Conclusion 8 References 10 Introduction In terms of auditing, materiality refers to the conception, which is primarily associated with the significance of a transaction, disparity or amount. In other words, materiality denotes the information, which is mainly required for preparing financial statements. It will be vital to mention in this similar context that the idea of materiality in the context of auditing plays a decisive role in the preparation of any financial statement effectively. Notably, the materiality concept in audit is mainly applicable at the time of planning process. It is to be stated that after the gaining momentum of internationalisation in the global business, most of the organisations attempted to follow the International Standard on Auditing (ISA). As per the regulations of ISA, the concept of materiality is mainly applicable in preparing financial statements. It will be vital to mention that the importance of materiality lies in preparing any sort of financial statement or audit report with utmost accuracy, so that no such confusions or disagreements arise in the overall audit process. The significance of materiality specifically in the context of auditing generally erupts at the time when there exist immense numbers of errors in the auditing procedure (Australian Accounting Research Foundation, 2001). Correspondently, the prime objectives of the essay are to discuss the importance of materiality concept in auditing context and also elaborating the usefulness of keeping secret of the materiality levels in similar circumstance. Importance of Materiality in Audit It has been earlier mentioned that the materiality concept is quite essential to consider while preparing any financial statement. The materiality levels in auditing context are regarded as the standards of determining the irregularities and threats that aid in determining the right directions of financial works. In order to explain the importance of materiality concept in auditing context, it is to be affirmed that this concept has wider influence on measurement of scale for the preparation of financial statements. Materiality is interdependently related with the inaccuracies derived from the results of the financial statements (Ndreca, 2013). The prime importance of materiality in the context of auditing can be better understood from the following discussion: Eliminating Risks of Non-Disclosures The eradication of risks of non-disclosure in auditing is duly considered to be one of the major functions or the importance of materiality concept. In the auditing process, the risks of non-disclosures often hinder in preparing financial statements with minimum error and less involvement of fraudulent activity. The objective of materiality concept is to eliminate any kind of confusion associated with the preparation of any financial statement. Though the objective of the materiality concept is to eliminate several kind of errors related to financial statement, it often fails to mitigate such errors. In the procedure of eliminating risks of non-disclosures, the significance of materiality lay in detecting irregularities and finding out mistakes as well as errors that are found to be persistent in different financial statements (Ndreca, 2013). Controlling Risks The importance of materiality process in auditing context lays in controlling several risks related with the balancing of accounts. The materiality context mainly detects those categories or problems that are mainly related to balancing of accounting process. The materiality idea often finds its application in the planning phase of preparing financial statements, which focuses on controlling several types of risks that entail business or operational risks (Ndreca, 2013). Abolition of Inherent Risks The inherent risks refer to such possible statements wherein the category of transactions or the balance of accounts possesses certain errors or mistakes. The materiality concept, in this regard, measures few categories of transactional errors that are found to be related with the balance of accounts. It can be apparently observed that the materiality idea depends on several dimensions or elements of the financial statements. It will be vital to mention that there exist certain ways based on which the materiality concept eliminates the inherent risks that appear while preparing different financial statements. In this context, one of such ways include making a mandate to follow a specific accounting standard as well as making effective decisions related to the procedure of financial reporting. Apart from the above discussed aspect, the materiality process also finds its applicability in lessening the accuracy risks of audit. This is also observed that materiality in the auditing context is mainly applied for reducing audit related risks. It is worth mentioning that the materiality concept in auditing context mainly identifies the risk of errors, which mainly occur due to several misstatements made in the audit process. The materiality concept in audit mainly determines the nature of the audit process. Furthermore, it also determines the timing or the duration of the audit process, which eventually result in lessening varied inherent risks (Ndreca, 2013). Materiality Levels and Secrecy in Audits In order to discuss about forming and maintaining the secrecy of materiality levels than the Coca Cola formula, it will be vital to mention that the materiality concept refers to be one of the decisive factors for preparing the financial statements in an organised manner. In this regard, the materiality concept needs to be very efficient for maintaining the secrecy. It can be apparently noted that every company holds different processes of maintaining secrecy of the financial statements prepare by them. In other words, it can be affirmed that the companies have their own process of maintaining secrecy while promoting the materiality process in the context of auditing. For instance, one of the renowned beverage companies of this world namely Coca-Cola maintains secrecy in its bottling operations for which the company attained greater success (Rocca, 2013). By taking into concern the recent developments in audit regulation and practice, the secrecy of the materiality levels can be judged in terms of evaluating the accuracy of the statements and considering several factors that have been overlooked earlier. Though the maintenance of secrecy is duly considered to be an important factor for preparing financial statements in an organised manner, still it possesses few limitations or weaknesses. Materiality levels have the tendency of omitting the possibilities of understanding the complex financial projects. Though the clarity of the statements is the main objective of materiality concept, sometimes it fails to maintain the clarity, which creates main obstacles for the stakeholders to gain appropriate knowledge about varied finance related aspects. It is worth mentioning that maintaining secrecy in the materiality levels not only promotes accurate preparation of financial statements, but also tends to lessen any sort of disagreement that persist within the entire auditing procedure (McKee & Eillifsen, 2000). Implications of Audit Reporting and Regulation in relation to Audit Materiality The materiality concept imposes substantial impact on the audit work planed concept. It can be apparently observed that the materiality concept and its diverse levels have extensive impact on different types of audit strategies and testing. In order to verify irregularities and errors that are found to be persistent within the financial statements, the materiality concept usually promotes audit work planned. As per the normal accounting standards, auditors require to set up different levels of materiality, which will be helpful for them auditors to evaluate the financial statements like balance sheet and income statement in an efficient manner. It has been earlier stated that the materiality concept has few weaknesses in terms of evaluating income statements. It can be found in this regard that the materiality of the income statement is generally calculated based upon the percentage of profit obtained before tax. However, the auditors often set up higher level of materiality for balance sheet on the percentage of net assets. It has been also observed that the higher materiality level of “balance sheet’ cannot be properly applicable for the income statement as well as auditing revenue. This can be duly considered as one of the weaknesses of materiality upon the procedure of audit reporting (The Financial Reporting Council Limited, 2013). The materiality concept and its distinct levels are also meant for maintaining the quality of the financial statements of the companies. In order to justify that the materiality levels are more secret than the formula of Coca Cola in the context of audit regulation and practice, it is quite essential to rectify the quality of the accounting statements of a company by adopting efficient accounting principles. As the financial statements are represented by the management team of the companies, it becomes quite mandate for setting the materiality level of financial reporting. The materiality concept in audit mainly comprises several important measures for auditing purpose. In the new materiality concept, the auditors should follow few rules. The auditors should include the transactional amounts in the report, which will be helpful for assessing the final financial statements (The Financial Reporting Council Limited, 2013). It should be considered that the materiality process may involve certain uncertainties in the audit process. Moreover, this might involve various fundamentals of the financial statements. For instance, the revenue, equity, expenses, assets and liabilities are the main factors that are mainly considered by the auditors in the audit process. Materiality considers all the relevant factors in the working process. In the materiality process, auditors mainly focus upon revenue recognition and net assets concept for audit purpose. It can be found in this regard that the materiality process mainly performs as per the nature of the companies. It is worth mentioning that the sound materiality process is an important factor to be considered for maintaining a sound audit working process in an organisation. In this similar concern, the auditors should maintain few or different approaches for establishing sound materiality in the organisations (The Financial Reporting Council Limited, 2013). In order to establish the materiality in the organisations, initially the auditors should be guided for evaluating the nature and timing of the audit process and also required to establish the judgemental results of the audit examinations. Moreover, the auditors should be provided with a detailed knowledge about the existing regulations based on which the audit reports or the financial statements will be prepared with utmost focus on maintaining reliability as well as accuracy. The right judgement in this regard will be helpful for considering the management’s financial statement to be right. In this regard, the auditors need to improve the materiality process at large. The improved materiality will not only help the auditors to keep secrecy, but will also prove to be much helpful in establishing the right economic decisions based upon the preparation of accurate financial statements. The final reporting materiality judgement is another way of improving the materiality process of audit system. These two processes of materiality often refers to be the most applicable and effective process for improving the materiality process in the audit statements (The Financial Reporting Council Limited, 2013). Conclusion From the above analysis and discussion, it can be ascertained that the conception of materiality plays a decisive part in determining the accuracy level of the financial processes. Throughout the discussion, the importance of materiality process in the audit working process has been revealed. Though the materiality concept is useful, it can also generate several misunderstandings in the audit process. It has been also observed that this concept involves huge risks in terms of raising misstatements in the accounting process. By reviewing the study, it can be found that the auditors mainly apply the materiality process and its varied levels for preparing accurate financial statements. It is worth mentioning that the materiality process has the capability of eliminating several misunderstandings in the audit process. However, the study also explained how materiality is also liable for creating confusions in the preparation of any financial statement. Moreover, the study also discussed about the scope of improvement in the audit process. Based on the findings of the study, it can be affirmed that the auditors need to improve their respective level of materiality for preparing varied financial statements. These statements may entail balance sheet, balance of payment and income statement among others. Thus, it can be concluded that it is quite mandatory to improve the level of materiality, as this will lead towards creating more accuracy in the audit process by a considerable extent. References Australian Accounting Research Foundation, 2001. Materiality and Audit Adjustments. Auditing Standard, pp. 1-39. International Federation of Accountants, 2009. Materiality in Planning and Performing an Audit. International Standard on Auditing 320, pp.320-329. Mock, J. T. & et. al., 2009. The Unqualified Auditor’s Report: A Study of User Perceptions, Effects on User Decisions and Decision Processes, and Directions for Further Research. Summary Report, pp. 1-19. McKee, T. E. & Eillifsen, A., 2000. Current Materiality Guidance for Audience. Working Paper, pp. 1-9. Ndreca, P., 2013. Materiality - An Important Method and Technique for the Financial Auditing. European Scientific Journal, Vol. 9, No.13, pp. 350-361. Rocca, G. L., 2013. Coca-Cola Secret Formula. Intermediate Accounting. [Online] Available at: http://wileyaccountingupdates.ca/category/intermediate-accounting/ [Accessed December 12, 2014]. The Financial Reporting Council Limited, 2013. International Standard on Auditing (UK and Ireland) 700 The Independent Auditor’s Report on Financial Statements. Financial Reporting Council, pp. 1-23. The Financial Reporting Council Limited, 2013. Audit Quality Thematic Review Materiality. Financial Reporting Council, pp. 1-20. Read More