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Lesson#14
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UNDERSTANDING THE ENTITY AND ITS
ENVIRONMENT-3
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UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT
AND ASSESSING THE RISKS OF MATERIAL MISSTATEMENT
d) Measurement and Review of the Entity’s Financial Performance
The auditor should obtain an understanding of the measurement
and review of the entity’s financial
performance. Performance measures, internal and external, some
times create pressures on the
entity and motivate management to misstate the financial
statements.
Internally generated information may highlight entity’s position
vis-à-vis, its competitors and
reports from credit rating agencies and analysts may provide
information useful to the auditors
understanding of the entity and its environments.
Examples of matters an auditor may consider include the
following:
• Key ratios and operating
statistics
• Key performance
indicators
• Employee performance
measures and incentive compensation policies.
• Trends
• Use of forecasts,
budgets and variance analysis
• Analyst reports and
credit rating reports
• Competitor analysis
• Period –on-period
financial performance (revenue growth, profitability leverage)
e) Internal Control
Understanding of Internal Control is used by the auditor to
identify types of potential
misstatements and to consider factors that affect the risks of
material misstatements and design the
nature, timing and extent of further audit procedures.
Definition of internal control
Internal controls is the process designed and effected by those
charged with governance,
management, and other personnel to provide reasonable assurance
about the achievement of the
entity’s objectives with regard to reliability of financial
reporting, effectiveness and efficiency of
operations and compliance with applicable laws and regulations.
It follows that internal control is
designed and implemented to address identified business risks
that threaten the achievement of any
of these objectives.
Components of internal control
(a) The control environment
(b) The entity’s risk assessment process
(c) The information system, including the related business
processes relevant to financial
reporting and communication.
(d) Control activities
(e) Monitoring of controls |
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