Question

why it is important for readers of financial statements expect auditors to detect fraud in financial statement of company they audit?

I need to talk about pros of the subject 5 mins in front of class. Please help to scope it.

Thank you

Answer 1

The auditor has a responsibility to plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud. Because of the nature of audit evidence and the characteristics of fraud, the auditor is able to obtain reasonable, but not absolute, assurance that material misstatements are detected. The auditor has no responsibility to plan and perform the audit to obtain reasonable assurance that misstatements, whether caused by errors or fraud, that are not material to the financial statements are detected.

THE RISK OF MATERIAL MISSTATEMENT
It describes two types of fraud that may result in financial statement misstatements:

• Fraudulent financial reporting. An example of fraudulent financial reporting is a company that ships customers goods that have not been ordered and then records the revenue as if it met all the criteria for revenue recognition. In other cases involving new high technology products, company personnel may have provided customers with a side agreement granting right of return for any reason or made payment for the goods contingent on receipt of funding or some other event. In such cases the side agreement typically is not disclosed to the auditor because the underlying transaction would not meet the criteria for revenue recognition under generally accepted accounting principles.
• Misappropriation of assets. Examples of misappropriation of assets are thefts of cash, inventory or securities. Small practitioners specifically asked for guidance in this area because they were more likely to encounter misappropriations than fraudulent financial reporting. Auditors from larger firms were more concerned about fraudulent financial reporting from a materiality standpoint but also thought guidance on misappropriations would be helpful.

So it is the auditors responsibility to detect certain significant defalcations, such as at a retailing company where thefts are reflected in cost of goods sold after inventories are adjusted to actual quantities on hand. While based on the actual facts and circumstances involved, many believe that auditor should have a feel for when inventory shrinkage is not in line with other entities in the industry.