Audit Planning

Objective: to plan the audit so that it will be performed in an effective manner

Benefits:
• Proper assignment of team members
• Proper assignment of work to assigned team members
• Facilitate direction and supervision of work and review
• Helps auditor identify and resolve potential problems on a timely basis
• Helps the auditor devote time and resources to important areas of the audit

Factors in planning:
1. Size of the entity – larger entity, more extensive planning
2. Complexity of transactions – more complex transactions involving significant judgment and
estimates, more extensive planning
3. Experience with the entity – new client win, more extensive planning (first time audit)
4. Changes in circumstances – significant changes such as new board of directors, amendment of
articles to include new primary business, more extensive planning
5. Timing of appointment – before year-end, auditor will be able to perform more extensive planning

Planning is continuous and iterative.

Major activities in audit planning:

1. Risk assessment procedures (RAP)
2. Establish overall audit strategy
3. Develop audit plan
4. Direction, supervision and review

Outputs:
1. Overall audit strategy – direction, scope and focus of the audit team’s efforts
2. Detailed audit plan – nature, timing and extent of risk assessment procedures (RAP) and planned
further audit procedures (FAP) including test of controls (TOC) and substantive tests (ST)
Example: perform physical inspection of fixed assets
3. Audit programs – step-by-step procedures/specific activities to be performed
Example:
(1) Request fixed asset schedule from the client
(2) Perform IPE test on the fixed asset schedule
(3) Select samples of fixed assets for floor-to-list and list-to-floor

Determination of materiality – risk-based audit

• RoMM or risk of material misstatement (considers inherent risk and control risk)
• AAR or acceptable audit risk
• PDR or planned detection risk
• Point of view of users
Inherent risk – risk that the ABCoTD (account balances, classes of transactions and disclosures) is materially
misstated in the absence of internal controls and audit [example: cash is highly susceptible to theft; expected
credit loss is susceptible to manipulation due to significant estimation uncertainty]

Control risk – risk that the internal controls will detect or prevent material misstatements

Risk of material misstatement (outside control of audit) = Inherent risk x Control Risk

Audit risk – risk that the audit opinion is wrong (example: unqualified opinion but there is actually a material
misstatement); auditor must lower the audit risk to a sufficiently low level that is acceptable
Audit risk = Inherent risk x Control risk x Detection risk

Detection risk (controlled by auditor) – risk that the audit procedures will detect material misstatements
To decrease audit risk, we need to decrease detection risk

Example: water filtering station

Inherent risk – water obtained from the river/spring is contaminated
Control risk – filtering process is not able to remove/destroy contaminants
Risk of material misstatement – water after filtering process is still contaminated
Detection risk – quality control to inspect the water
Audit risk – water after all processes, including final inspection, is still contaminated

3 levels of materiality
1. Overall materiality (OM) – maximum misstatement allowed before it will be considered material
(P1,000,000)
2. Performance materiality (PM) or planning materiality or scoping materiality – set at a lower level of
overall materiality for undetected misstatements
Example: auditor is expecting 20% undetected misstatements
Overall materiality P1,000,000 less headroom 20% = P800,000 performance materiality (used in the
specific auditor procedures such as scoping)

Unadjusted per client Quantitively material?

/Scoped-in?
Cash P 150,000 
Receivables 2,000,000 

Performance materiality is also used for sampling.

3. Clearly trivial threshold (CTT) – projected misstatement is below CTT (example, 5% of OM or

P50,000), this is immaterial
Example: during the audit, you have detected misstatements of P10,000 on your sample and
projected the misstatement to be P15,000 for the population using extrapolation
Population is P3,000,000, you tested P2,000,000.
In the P2,000,000 sample = misstatement P10,000
P3,000,000 population = misstatement P10,000 x P3M over P2M = P15,000

Projected misstatement of the population is P15,000, which is below the CTT, you can ignore the
misstatement/passed testing
 But if the misstatement is above CTT, P80,000 projected misstatement:
1. Test more samples to reduce projected misstatement; or
2. Request client to correct detected misstatements; or
3. Accumulate uncorrected misstatements (for comparison with PM)

Special materiality level: Specific materiality – we can set a lower materiality level for a particular
ABCoTD due to qualitative factors (for example, for testing of leases, a specific materiality of
P500,000 will be used)
Leases, “PM” is P500,000
The rest, PM is P800,000

Lower materiality = stricter (less allowable misstatements)

Higher materiality = more lenient

Risk Assessment Procedures:

• Identify and assess RoMMs (first letter, all vowels)
o Inquiry – inquire with client personnel
o Inspection
 Inspection of physical assets – not usually used in RAP
 Inspection of documents – vouching and tracing; reading documents
o Observation – observing a process
o Analytical Procedures – using expectations or trends or ratios to make sense of fluctuations
or movements (for example, sales increased by 5% but receivables increased by 80%; does
not make sense)
• Understand entity and its environment – understand business processes such as financial closing and
reporting process (FCRP), expenditure process, revenue process (can be documented in a narrative
format, flowchart or both)
o External factors such as industry
o Internal factors such as board composition
o Objectives, strategies, business risks and internal controls such as KPIs
• Performance of walkthroughs – follow a specific transaction (specific sales transaction) from
origination through the entity’s processes, including information systems, until it is reflected in the
entity’s accounting records (remember to ask probing questions during walkthroughs)
• Determine materiality
o Step 1: determine the perceived need of users
o Step 2: identify the benchmarks based on perceived need of users (example: users are
focused more on revenue? Profit? Equity? Assets?)
o Step 3: apply a percentage to the benchmark (5% of revenue = OM)
o Step 4: compute PM and specific materiality, if needed for a particular ABCoTD
o Step 5: compute CTT

Assessment of RoMMs:
• FS level RoMMs such as management override of controls (MOOCs) and revenue recognition
• ABCoTD level
1. An audit approach that allocates proportionately more audit resources to areas of high audit risk is
referred to as:
A. Risk-based approach audit
B. Substantive approach audit
C. Controls-based approach audit
D. Data driven approach audit

2. Which of the following is considered a required documentation in planning an audit?

A. A flowchart or narrative (not required) of the accounting system to describe the recording
classification of transactions for financial reporting
B. An audit program setting forth in detail the necessary procedures to be performed during the
engagement
C. A planning memorandum establishing the timing of the audit procedures and coordinating the
assistance of human resources of the entity
D. An internal control questionnaire identifying policies and procedures that assure specific
objectives will be achieved

3. Inquiries directed towards those charged with governance (BOD) may most likely:
A. Relate to their activities concerning the design and effectiveness of the entity’s internal control
and whether management has satisfactorily responded to any findings from these activities
(internal control considerations, which is the step after audit planning)
B. Help the auditor understand the environment in which the financial statements are prepared
(KPIs, overall strategies or targets)
C. Relate to the changes in the entity’s marketing strategies, sales trends, or contractual
arrangements with its customers (inquiries directed towards management)
D. Help the auditor in evaluating the appropriateness of the selection and application of certain
accounting policies (towards management)

4. These are audit procedures performed to obtain an understanding of the entity and its environment,
including the entity’s internal control, to identify and assess the risks of material misstatements,
whether due to error or fraud, at the financial statement and assertion levels.
A. Risk assessment procedures
B. Further audit procedures (TOC or TOE of controls and ST)
C. Test of operating effectiveness of controls (TOE of controls under FAP)
D. Preliminary analytical procedures (this is used to gain an understanding and is a specific RAP)

5. After evaluating the risks of material misstatements, the auditor determines detection risk:
A. As the complement of overall audit risk (complement means yung wala)
B. By performing substantive audit tests (performed AFTER determining detection risk and is
determined as a function of detection risk; without determining detection risk, you cannot
perform STs)
C. At a level that equates the joint probability of inherent risk, control risk, and detection risk with
overall audit risk (Planned Audit Risk (pre-determined) = Inherent Risk (pre-determined) x
Control Risk (pre-determined) x Detection Risk (determined)) NOTE: pre-determined is
determined before audit, not controlled by the auditor
D. As a product of further study of the business and industry and application of analytical
procedures as part of performing risk assessment procedures to properly plan the audit in an
 effective manner (general audit planning, does not talk about detection risk, the product of audit
planning = audit strategies, audit program and audit plan)

6. Which of the following is not a factor that affects the auditor’s professional judgment, during audit
planning, as to the quantity, type and content of working papers?
A. The auditor’s preliminary assessment of control risk
B. The type of report to be issued by the auditor (type of report, whether unqualified or modified
opinion, will depend on the results of the audit)
C. The nature of the client’s business
D. The auditor’s preliminary evaluation of the inherent risk based on discussions with the client

7. How can the audit program best be described at the beginning of the audit process?
A. Tentative (can be changed due to new information or circumstances; planning is continual and
iterative)
B. Conclusive
C. Comprehensive (will depend on the client and audit team)
D. Cohesive (will depend on the client and audit team)

8. Audit programs (step-by-step procedures to be performed) are designed to

A. Ensure that all audit work may be completed as of interim date (testing at interim date will
depend on the RoMM because RoMMs will affect detection risk which will affect the Nature,
Timing and Extent of further audit procedures including whether to test at the interim or at year-
end)
B. Gather sufficient and appropriate evidence to support the opinion (our procedures to be
performed will be able to obtain the evidence required to support the opinion)
C. Inherent risk may be assessed at a low level (inherent risk is assessed at a low level if there is
really a low risk of misstatement for a particular ABCoTD in the absence of controls and audit)
D. Identify constructive and value-adding suggestions to the client (not the purpose of audit
programs)

9. Analytical procedures are performed in the planning stage because

A. These procedures replace test of balances and transactions that exceed scoping materiality (test
of balances and transactions must still be performed)
B. The study of financial ratios is an acceptable alternative to investigate unusual fluctuations that
lead to audit efficiency (analytical procedures only highlight unusual fluctuations which must be
tested further by the audit; identification of key audit areas)
C. Statistical tests of financial information may lead to the discovery of material errors in the
financial statements (substantive analytical procedures, and these are not performed in the
planning stage)
D. Plausible relationships among information are expected and continue in the absence of opposing
conditions (we can perform analytical procedures because of plausible relationships or we can
reasonably expect relationships among factors/accounts)

10. Which of the following concerning materiality is incorrect?

A. Aggregate materiality thresholds are a function of the auditor’s preliminary judgments concerning
audit risk
B. In general, the more misstatements the auditor expects, the higher should be the aggregate
materiality threshold (more misstatements expected = higher risks = lower materiality or mas
strict yung audit)
C. The smallest aggregate level of errors or fraud that could be considered material to any one of
the financial statements is referred to as a “materiality threshold” (definition of materiality)
D. Materiality thresholds may change between the planning and review stages of the audit.
(planning is iterative and materiality is based on benchmarks such as revenue. Revenue can
throughout the audit due to adjustments or materiality may be based on interim data that is
annualized)