The Concept of Materiality in Auditing - Essay Example

MATERIALITY IN AUDITING Introduction Materiality is an important concept that is used guiding theeffective practice in auditing and other important financial accounting exercises in companies and other business organisations. Financial accounting is an important practice, which is useful towards ensuring financial accountability in organisations making them credible and effective. Financial accountability is an important attribute for companies because it places them in a better position to secure additional financing from financial institutions like banks. Additionally, it helps these companies to increase the number of shareholders, willing to invest in the company. Materiality can be defined as the expression for relative significance or the importance of a specific matter with respect to financial accounting and financial statements (Elliott & Elliott 2008, 12). Alternatively, it can be argued that besides being a mere dollar amount, which is brought about by auditors and other people in the same industry based on their experience and professional judgment, materiality is simply a market concept that has to be discovered and understood by the particular auditors in the process of active and consistent research. It is the duty of the auditor to ensure that he comes up with some of those factors, which influence the decisions arising from financial statements and their particular users. In this case, the auditor needs to evaluate the particular amount influencing the decisions made from financial statements using various methods and approaches. He is supposed to make an average of the particular methods in attempting to make an estimate of the exact monetary amounts of the materiality. In this case, the materiality can easily be determined because it is simply a collection of the various sentiments made by various stakeholders in business organisations like investors, managers, regulators and creditors among many more. This paper examines the concept of materiality as an important subject that is common in the field of auditing, explaining its relevance in the auditing process of financial statements from business organisations. Auditing Auditing can be described as the independent and systematic process of examining data, records, statements and other financial and non-financial performance of a business enterprise for a certain purpose (Millichamp 2002, 21). In an auditing process, the auditor often perceives and identifies the prepositions placed before him for reasons of examination, collection of evidence and evaluation them with the aim of reaching at a credible judgment that is often explained in his final audit report. It is important to understand that any type of subject matter can be effectively audited. Audits are very effective in providing third party assurance and confidence of financial accountability to the different stakeholders that the particular subject matter under examination and evaluation is done in the fairest manner (Elliott & Elliott 2008, 45), free from any forms of material misstatement. The term is frequently used to refer to the audits made for the financial data in relation to the legal person. Other areas commonly comprise of quality management, internal controls in a company, water and project management as well as energy conservation. After a successful audit, stakeholders can evaluate and come up with an effective improvement of the risk management process, control and the entire governance process in the business organisation or the particular subject matter. In making a successful auditing process, the auditors can ask the particular audit committee to determine the materiality since the particular groups represent creditors and investors, who are both important in the success of the business organisation. How does materiality apply in the auditing process? From the foregone discussion, it is evident that the main function of auditing financial statements is to make an expression of opinion of whether the particular statements have been prepared in the required material respects according to the framework stipulated for financial reporting. The auditing process is often a separate decision and responsibility, different from the particular business entity that has prepared the statement. In the process of conducting the audit, materiality is often applied to indicate not only the particular quantified amount, but also the effect that that specific amount may have on the separate contexts the entity has. In the auditing planning process, the auditor has the free will to decide on the intensity of materiality to be applied, which often considers the financial statements to be audited. The decision depends on the kind of judgments made about the size of the firm, nature as well as the specific circumstances for the misstatements that have the ability to influence the particular users of financial reports. Additionally, the decision is also influenced by the regulatory and legislative requirements as well as the public expectations. In the process of auditing, of the auditor gets some information that may have made it determine the different materiality level, he will have to make a revision of the particular materiality level in the most effective manner. Materiality levels used in the Auditing process Whenever an audit process is conducted in the business, careful planning has to be done prior to execution of an effective and objective process. In this case, the business can be assured of getting an audit report that is sufficient, competent and having an evidential matter supported by facts from the evaluation process by the auditor (Leung 2011, 56). It is important to understand that business practices and needs of businesses vary from one business to another; in this case, the particular materiality levels used are not the same. The auditor has the freewill to decide on the kind of materiality to be under in line with the laid down framework in the reporting process. Before he embarks on the auditing process, the particular auditors has to ensure that he conducts an effective risk assessment, which often takes a great amount of time, especially in the planning process. This is because, the auditor is supposed to have an effective understanding of the business, before he can decide on the materiality levels that will be used in the process. Additionally, the kinds of controls in the organisation determine the kind of materiality levels to be applied by the auditor. After making this evaluation, the auditor makes a review of the particular financial statements placed before him by the client, for which all the necessary evidence is required. It is important to understand that the risk assessment exercise determines the amount of time as well as the materiality levels used by the auditor in the auditing process. In this case, audit risk is used in capturing the danger that may be felt in cause of failure of the audit process. The relevence of secrecy in materiality Currently, financial auditors are being expected to ensure that the have utmost transparency in all they do. This is an impprtant requirement that assures the much needed financial accountability in business organisations. For this reason, the standards setters in financial accounting are consistently working on ways to create and improve transparency levels in the establishment of financial statements. In this context, transparency in the financial statements refer to degree to which the financial information relating to a business organisation can be understood effectively and visible investors and the various participants in the market. As far as secrecy in the materiality is concerned, the fact that no disclosures have been made concernign the levels used in the different auditing exercises aids in enhancing the accuracy of the process by auditors (Kimmel & Weygandt 2007, 41). This is because, it enable sthe auditors to make decision concerning best practices for auditing depending on the characteristics of the business organisation. Recent changes in audit regulations and their infleunce on disclosures of materiality Following the need to improve the auditing process and entire process of making financial statements, recent changes have been proposed in the way disclosures are handled in the auditing and financial accounting process. The changes in the auditing process have been directed towards ensuring that financial statements express their opinions on the existing financial statements and reports in general. These changes effectively recognize the purpose of disclosures in carrying out risk assessment as well as generating responses for the particular risks already assessed (Stittle & Wearing, 2008, 43). In this case, they play an important role in influencing the final audit reports to be made by the auditors undertaking the auditing process. In this case, the disclosures made for the materiality are often treated in similar fashion as the various categories of financial statements and transactions as well as the account balances for application in the auditing process. Conclusion In conclusion, auditing is an important process that is needed in the process of creating and enhancing financial accountability in businesses. Business owners and managers are supposed to ensure that they create and keep financial statements for all transactions the engage in. They should then invite independent financial auditors who can evaluate and provide proper financial audit reports and recommendations for the success of the business in its endeavors. Bibliography Elliott, B., & Elliott, J. 2008. Financial accounting and reporting (12th ed.). Financial Times Prentice Hall, Harlow. Kimmel, P., & Weygandt, J. 2007. Financial accounting: Tools for business decision making(4th ed.). John Wiley, Hoboken, NJ. Leung, D. 2011. Inside accounting the sociology of financial reporting and auditing. Gower, Burlington, Vt. Millichamp, A. 2002. Auditing (8th ed.). Continuum, London. Stittle, J., & Wearing, B. 2008. Financial accounting. SAGE Publications, Los Angeles. Read More