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AUDITING THEORY
PSA 240 THE AUDITOR’S RESPONSIBILITIES RELATING TO FRAUD IN AN AUDIT FINANCIAL

STATEMENTS
PSA 250 CONSIDERATION OF LAWS AND REGULATIONS IN AN AUDIT OF FINANCIAL STATEMENTS
PSA 260 COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE
PSA 240
THE AUDITOR’S RESPONSIBILITIES RELATING TO FRAUD IN AN AUDIT OF FINANCIAL STATEMENTS
FRAUD refers to an intentional act by one or more individuals among management, those charged with governance,
employees or third parties, involving the use of deception to obtain an unjust or illegal advantage.
Fraud involves:
• incentive or pressure to commit fraud;
• a perceived opportunity to do so; and
• some rationalization of the act.
Management Fraud – fraud involving one or more members of management or those charged with governance.
Employee Fraud – fraud involving only employees of the entity.
(In either case, there may be collusion within the entity or with third parties outside of the entity.)
TWO TYPES OF FRAUDthat are relevant to the auditor – misstatements resulting from:
1. Fraudulent financial reporting
• Involves intentional misstatements including omissions of amounts or disclosures in financial statements to
deceive financial statement users.
• Often involves management override of controls that otherwise may appear to be operating effectively.
• Can be caused by the efforts of the management to manage earnings in order to deceive financial
statements users by influencing their perceptions as to the entity’s performance and profitability.
• May be accomplished by the following:
▪ Manipulation, falsification (including forgery), or alteration of accounting records or supporting
documentation from which the financial statements are prepared.
▪ Misrepresentation in, or intentional omission from, the financial statements of events, transactions or
other significant information.
▪ Intentional misapplication of accounting principles relating to amounts, classification, manner of
presentation, or disclosure.
2. Misappropriation of assets
• Involves the theft of an entity’s assets and is often perpetrated by employees in relatively small and
immaterial amounts.
• Can also involve management who are usually more able to disguise or conceal misappropriations in ways
that are difficult to detect.
• Often accompanied by false or misleading records or documents in order to conceal the fact that the assets
are missing or have been pledged without proper authorization.
• Can be accomplished in a variety of ways, including:
▪ Embezzling receipts.
▪ Stealing physical assets or intellectual property.
▪ Causing and entity to pay for goods and services not received.
▪ Using and entity’s asset for personal use.
Responsibilities of Those Charged with Governance and of Management
1. The primary responsibility for the prevention and detection of fraud rests with both those charged with
governance of the entity and with management.
2. It is important that management, with the oversight of those charged with governance, place strong emphasis on
fraud prevention, which may reduce opportunities for fraud to take place, and fraud deterrence, which could
persuade individuals not to commit fraud because of the likelihood of detection and punishment. This involves a
commitment to creating a culture of honesty and ethical behavior which can be reinforced by an active oversight
by those charged with governance.
3. In exercising oversight responsibility, those charged with governance consider the potential for override of controls
or other inappropriate influence over the financial reporting process, such as efforts by management to manage
earnings in order to influence the perceptions of analysts as to the entity’s performance and profitability.
Responsibilities of the Auditor
1. An auditor conducting an audit in accordance with PSAs obtains reasonable assurance that the financial
statements taken as a whole are free from material misstatement, whether caused by fraud or error.
2. Owning to the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of
the financial statements will not be detected, even though the audit is properly planned and performed in
accordance with PSAs.
3. The risk of not detecting a material misstatement resulting from fraud is higher than the risk of not detecting a
material misstatement resulting from error because fraud may involve sophisticated and carefully organized
schemes designed to conceal it, such as:
• Forgery;
• Deliberate failure to record transactions; or

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AUDITING THEORY

PSA 240 THE AUDITOR’S RESPONSIBILITIES RELATING TO FRAUD IN AN AUDIT FINANCIAL

Responsibilities of Those Charged with Governance and of Management

Responsibilities of the Auditor

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