Audit Risk

Audit Risk

The risk that auditors issue an inappropriate opinion on financial statements that are materially misstated, encompassing the possibility of failing to detect significant errors or fraud despite conducting the audit in accordance with professional standards.

For instance, auditors might assess higher audit risk when examining a company implementing a new accounting system, experiencing rapid growth, operating in a volatile industry, or showing financial distress, requiring more extensive testing and specialized procedures in these circumstances.

Audit risk comprises three components: inherent risk (susceptibility of assertions to material misstatement regardless of controls), control risk (risk that misstatements won’t be prevented or detected by internal controls), and detection risk (risk that audit procedures won’t detect existing misstatements). The audit risk model (Audit Risk = Inherent Risk × Control Risk × Detection Risk) guides the audit approach. Auditors first assess inherent and control risks based on client characteristics and control effectiveness, then adjust detection risk by modifying nature, timing, and extent of audit procedures. Higher inherent and control risks necessitate more rigorous testing to maintain acceptable overall audit risk levels.