NAME: ALYSSA MAE V.

SEVEN
COURSE: BACHELOR OF SCIENCE IN ACCOUNTANCY

AUDIT RISK MODEL PROBLEM

ABC&Co. is an audit and assurance firm which has recently accepted the audit of Banco de oro
(BDO) . During the planning of the audit, engagement manager has noted the following
information regarding BDO for consideration in the risk assessment of the assignment:

BDO is a listed company operating in the financial services sector

BDO has a large network of subsidiaries, associates and foreign branches
The company does not have an internal audit department and its audit committee does not
include any members with a background in finance as suggested in the corporate governance
guidelines
It is the firm's policy to keep the overall audit risk below 9%
Assumed control risk is 50% and inherent risk is 60%
Required:

1. Compute for the planned detection risk?

AR = IR × CR × DR. To check:
0.09 = 0.50 × 0.60 × DR AR= 0.50× 0.60 × 0.30
0.09 = 0.30 × DR AR =0.09 or 9%
0.09 = DR
0.30
0.30 / 30% = DR

2. Using the same data, but now assume the risk of material misstatements is 30% and the
planned detection risk is 10%. Compute for the Acceptable Audit risk?
AR = RMM × DR
AR = 0.30 × 0.10
AR = 0.03 / 3%

3. Using same data, assume after the reassessment of internal control the following are
changes:

Control risk is increase to 60%

Risk of material misstatements is increased by 10%
Acceptable Audit Risk is 8%
Compute for the inherent risk __________ and Planned Detection Risk ________________
AR = IR × CR × DR
RMM = IR × CR Increased by 10%
= 0.60 × 0.50 RMM = 30% × 110%
= 0.30 or 30% = 33%
To get IR:
RMM = IR × CR
IR = RMM / CR
IR = 33 % / 60%
IR = 55%

DR = AR__
IR × CR

DR = ___8%__
55%×60%
DR = 24.24%

To check:
AR = IR × CR × DR
AR = 55% × 60% × 24.24%
AR = 0.79992 or 8%