Question

Using the AICPA and PCAOB websites, read 1) AS 2105 Consideration of Materiality in Planning and Performing an Audit and 2) AU-C Sec. 320 Materiality in Planning and Performing an Audit.

Required: Prepare a summary to compare and contrast the differences between the two pronouncements.

Answer 1

Introduction:

AS 2105 and AU-C Sec 320 are both standards that explain the concept of materiality and use of the concept for auditing of the financial information.

Differences:

1. Definition of materiality:

As per AS 2105, a fact is material if the fact will be viewed as the reasonable investor as having significantly altered the total mix of information, whereas AU-C Section 320 gives a more detailed meaning of materiality where it states that:

1. Materiality are the misstatements that would individually or in aggregate influence the decisions of the users

2. Materiality is based on needs of users as a group and not for individual users.

3. Materiality is determined based on the surrounding circumstances and

4. The nature and size of misstatements will effect materiality

Hence, AU-C Section 320 defines materaility in detail

2. Reasonable users:

AS 2105 states that material facts are facts that will be considered as the reasonable investor as material facts. It doesnt define reasonable investor. AU-C Section 320, states the following assumptions to be made about the users:

- Users have reasonable knowledge of business and economic activities and are willing to reasonablely study financial information

- Users know about the concept of materiality and the fact that the financial statements will be prepared using the concept of mteriality

- Users are aware about uncertainities in the amounts that are based on estimates, judgements and future events

- users can make reasonable economic decisions.

3. Performance material vs Tolerable misstament

AS 2105 states that the auditor should establish tolerable misstatement level i.e an amount where total of uncorrected misstatements would not surpass total materiality and use this while assessing whether the misstatements identified are to be corrected/reported

AU-C Sec 320 states that the auditor should determine Performance materiality i.e an amount less than materiality so that the aggregate misstatements do not exceed the materiality. It also states that Performance materiality is to be distinguished from tolerable misstatement and defines tolerable misstatement as application of performance materiality to a particular sampling procedure

4. Documentation

AS 2105 doesnt give specific documentation requirements with respect to materiality.

AU-C Section 320 specifies the following documentation requirements:

1. The amount of materiality for the financial statements as a whole and how it is determined

2. The materiality levels

3. Performance materiality and

4. Any reassessment made to materiality due to changes in the circumstances.

5. Benchmark

AU-C Section 320 clearly explains the concept of Benchmark. Benchmarks are the factors that mainly influence the decision of the users of the financial statements. It states that materiality is calculated as certain percentage of a benchmark. The amount of benchmark will depend on the nature of business,elements of the financial statements(eg. asset, liabilities,etc), ownership structure(debt oriented,equity oriented etc) and volatalityof benchmarks.

For example,in case of a profit-oriented entity, the users of financial statements would mainly focus on the profitability of the company and hence profit before tax will be the appropriate benchmark.

6. Percentage

AU- C Section 320 states that a certain percentage is applied to the benchmark. It states that deciding the percentage will involve professional judgement and will vary based on the benchmark used. For example, percentage will be higher if the bench mark is a net benchmark. Eg. Profit before tax and the percentage will be lower if the benchmark is a gross benchmark eg. Revenue.