XYZ's financial statements statements for 2004 will be consolidated with ABC. Hence we have calculated materiality materiality and tolerable error for both XYZ (chief entity) and XYZ consolidated.
Materiality Assessment For XYZ (Chief Entity) For Revenue/Expenses, Revenue/Expenses, materiality is determined at 1% of total expesnes as per 2003 actual. The reason for using 2003 figures is because because the consoldiated 2003 expenses are very close to 2004 budget budget figures. The rationale rationale for choosing total expenses expenses is that XYZ is a budget dependent agency. Hence total budgeted expenses is considered appropriate appropriate as basis for calculating materiality as users would expect potential misstatement would occur in expenses. XYZ: 1% of 466,014,000 = $4,660,140 For Balance Sheet items, materiality is determined at 5% of net assets. XYZ: 5% of 59,211,000 = $2,960,550 (Note: materiality may be influenced by considerations relating to individual account balances, such as legal and regulatory requirements. requirements. For example the expected degree of accuracy of note disclosures disclosures (e.g. executive remuneration, commitment notes etc) will make normal materiality irrelevant (qualitative materiality).
Tolerable Error Assessment for XYZ (Chief Entity) Based on prior history with the agency and the number and quatum of unadjusted errors in 2003, it is consdered appropriate to set the following tolerate error % of our materiality assessment: Revenue and Expenses (In 2003, there weren't many audit adjustments and control risks was assessed as medium. Hence in 2004, our tolerable error is purposely set close to ou r materiality): materiality): XYZ: 95% of $4,6610,140m = $4,427,133 (For example, sample size for substantive test purposes for supplier expense line item as per 2003 budget paper would be $118m/4.4m = 27. This sample size has been calculated not taking taking consideration of stratification, which which we will look at final visit to see if sample size can be further reduced by stratification.) Balance Sheet Items (in (in 2003, there were some major errors found in fixed assets assets component. Hence in 2004, our tolerable error is purposely set lower as follows): XYZ: 50% of $2,960,550 = $1,480,275 $ 1,480,275 (For example, additions to Infrastructure Plant & Equipment for substantive test purposes would have a sample size of $34m/1.5m = 23. However, we will will look at opening balance closely because of last year's issue that the fixed asset module line line items do not reconcile to GL fixed assets line item. item. We would look at how client has resolve this issue at a very detailed level so materiality will will not apply for the opening adjustments (if any) for Infrastructure Plant & Machinery.)
Materiality Assessment for XYZ (Consolidated)
For Revenue/Expenses, materiality is determined at 1% of total expesnes as per 2004 budget. The rationale for choosing total expenses is that XYZ as a whole is materially a budget dependent agency although ABC derives some revenue from commercial activities but we do not expect any material adjustments coming from ABC. Hence total budgeted expenses is considered appropriate as basis for calculating materiality as users would expect potential misstatement would occur in expenses. Consolidated: 1% of 585m = $5.8m For Balance Sheet items, materiality is determined at 5% of net assets. Consolidated: 5% of 87m = $4.35m (Note: materiality may be influenced by considerations relating to individual account balances, such as legal and regulatory requirements. For example the expected degree of accuracy of note disclosures (e.g. executive remuneration, commitment notes etc) will make normal materiality irrelevant (qualitative materiality).
Tolerable Error Assessment for XYZ (Consolidated) Based on prior history with the agencies and the number and quatum of unadjusted errors in 2003, it is consdered appropriate to set the following tolerate error % of our materiality assessment: Revenue and Expenses (In 2003, there weren't many audit adjustments and control risks was assessed as medium. Hence in 2004, our tolerable error is purposely set close to ou r materiality): Consolidated: 95% of $5.8m = $5.51m Balance Sheet Items (in 2003, there were some major errors found in fixed assets component in XYZ Hence in 2004, our tolerable error is purposely set slightly lower a s follows): Consolidated: 50% of $4.35m = $2.2m (Note: Due to our prior years' history with ABC, we do not expect material errors from ABC which will affect the consolidated materiality).
Summary of Audit Differences (SAD) All errors found exceeding the above tolerated error will be carried to the Summary of Audit Differences. Differences encountered during the audit - both material errors in recorded amounts and judgmental differences (e.g. accrual estimates) - for which the client has not made a correction are summarised to evaluate the materiality of their aggregate effect on the financial statements.
Summary of Unadjusted Differences (SUD) All errors found below the tolerable error threshold will be carried to the Summary of Unadjusted Differences for evaluation at the end of the audit. As the fieldwork is being completed, the audit team should be accumulating and summarising nonmaterial errors found during the audit. The purpose is to estimate the likely aggregate unadjusted misstatement in the financial statements at the end of the audit to gauge whether total unadjusted misstatements have a material effect on the financial statements.
The audit manager should review the SUD and ensure that the audit team has p roperly accumulated and evaluated the results. The engagement manager should always consider qualitative factors when evaluating the impact of unadjusted differences. Qualitative factors may, in certain circumstances, result in misstatements of relatively small amounts having a material effect on the financial statements. For example, misstatement that have the effect of altering performance trends or turning operating losses into operating income could well be considered material, even though they may be less than our quantitative measure of materiality. Previous years' SUD items should also be evaluated to determine if they have a material effect on current year's results. Individual unadjusted differences (with explanation) should be included in the closing report as wellas in the management representation letter.
