NAME: ABU BAKARR BAH

ID: 19081
COURSE: BS C (HONS) APPLIED ACCOUNTING YEAR 4

1) How to calculate materiality

Unfortunately, there`s no specific definition of materiality under U.S. Generally
Accepted Accounting Practice (GAAP). But the conceptual framework for financial
reporting under international financial reporting standards (IFRS) says:
Information is material if omitting it or misstating it could influence decisions that
users make on the basis of financial information about a specific reporting entity.
In other words, materiality is an entity specific aspect of relevance based on the
nature or magnitude, or both, of the items to which the information relates in the
context of an individual entity`s financial report.
Several definitions of materiality exist. But the universal premise is that a financial
misstatement is material if it could influence the decisions of financial statement
users.
How do auditors determine materiality?
To establish a level of materiality, auditors rely on rules of thumb and
professional judgment. They also consider the amount and type of misstatement.
The materiality threshold is typically stated as a general percentage of a specific
financial statement line item. For example, let`s suppose Bah Auditor sets a
materiality threshold of 1% of revenue for XYZ Company. For 2019, the Company
reports annual revenue of le190 million, so its materiality threshold is le1.9
million.
During fieldwork, Bah unearths a clerical error that caused XYZ to understate
revenue by le1 million. Is this error material? Although a le1 million error may
seem significant, it`s less than 1% of the company`s annual revenue. So, it`s
immaterial to XYZ`s financial performance. On the other hand, if the company had
overstated its revenue by le1 million due to a fraud scheme involving a senior
executive, Bah may deem the misstatement as material because it involved a
member of the senior leadership team and potential criminal activity
IT`S ALL RELATIVE
As these examples demonstrate, materiality is a relative concept. In practice,
auditors must evaluate a material misstatement on a standalone basis and within
context of a company`s financial statements overall. What constitutes a material
misstatement for one company may not reach the materiality threshold for
another. Materiality is a matter of professional judgment and your audit team`s
experience
2) The elements of an engagement letter
The key elements of audit engagement letter are as follows:
 The objective and scope of the audit of financial statements
 The responsibilities of the auditors
 The responsibilities of management
 Identification of the applicable financial reporting framework for the
preparation of the financial statements
 Reference to the expected form and content of any reports to be issued by
the auditor
 A statement that there may be circumstances in which a report may be
differ from its expected form and content