Detection Risk

Posted in Finance, Accounting and Economics Terms, Total Reads: 1068

Definition: Detection Risk

Detection risk refers to the risk that the auditor may wrongly conclude that there are no material errors but in fact they are there. It is one of the key three elements that include audit risk, inherent risk & control risk.

The three major elements of detection risk are:

• Misapplying an audit procedure: Sometimes you use wrong ratios to check if the number is accurate by just looking

• Misinterpreting audit results: You have used the correct audit procedure but out rightly evaluate in a wrong manner. You may decide accounts payable is perfect when in fact it is grossly incorrect.

• Selecting the wrong audit testing method: Different methods are more applicable in different scenarios and statements

Audit procedures must be properly applied in order to detect any material misrepresentations of information in the financial; statements to detect a fraud. Not applying the procedures in proper manner or omitting any key procedures can lead to fraud going undetected. Since samples are selected to analyse transactions, it is not possible that audit is always correct and hence some amount of risk is always present. The detection risk can be hugely reduced if the number of samples taken for analysis is made large.

Detection risk is the residual risk after the internal controls and audit procedures have been done and the auditor is willing to accept. If the auditor believes that the inherent and control risks are high, he may put the detection risk at a lower level so that audit risk is in an acceptable range. Conversely, if the auditor believe that inherent control risk is low, he may set the detection risk to be high.

Audit Risk = Inherent Risk*Control Risk*Detection Risk


Hence, this concludes the definition of Detection Risk along with its overview.

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