AuditingandAssuranceStandardsCounci

PhilippineStandardonAuditing240(Redrafted)

THEAUDITORSRESPONSIBILITIESRELATINGTOF
RAUDINANAUDITOFFINANCIALSTATEMENTS
PHILIPPINESTANDARDONAUDITING240(REDRAFTED)
THEAUDITORSRESPONSIBILITIESRELATINGTOFRAUDINANAUD
ITOFFINANCIALSTATEMENTS
(EffectiveforauditsoffinancialstatementsforperiodsbeginningonorafterDecember15,200
9)

CONTENTS
Paragrap
h
Introduction
ScopeofthisPSA.........................................................................................
....18EffectiveDate..........................................................................................
........9Objectives.......................................................................................
................10Definitions.............................................................................
..........................11Requirements
ProfessionalSkepticism..............................................................................
.....1214DiscussionAmongtheEngagementTeam................................................
......15RiskAssessmentProceduresandRelatedActivities............................
...........16-

24IdentificationandAssessmentoftheRisksofMaterialMisstatementDueto
Fraud....................................................................................................2527ResponsestotheAssessedRisksofMaterialMisstatementDueto
Fraud....................................................................................................
.....2833EvaluationofAuditEvidence...................................................................
......3437AuditorUnabletoContinuetheEngagement............................................
.....38ManagementRepresentations..........................................................
...............39CommunicationsToManagementandWithThoseCharged
WithGovernance...................................................................................
...4042CommunicationstoRegulatoryandEnforcementAuthorities....................
..43Documentation...................................................................................
............4447
ApplicationandOtherExplanatoryMaterial
CharacteristicsofFraud..............................................................................
...A1A6ProfessionalSkepticism.........................................................................
........A7A9DiscussionAmongtheEngagementTeam................................................
....A10A11RiskAssessmentProceduresandRelatedActivities................................
.....A12A27
PSA240(Redrafted)

IdentificationandAssessmentoftheRisksofMaterialMisstatement
DuetoFraud............................................................................
A28A32
................
ResponsestotheAssessedRisksofMaterialMisstatementDueto
Fraud......................................................................................
A33A47
..................
EvaluationofAuditEvidence.....................................................
A48A52
..................
AuditorUnabletoContinuetheEngagement..............................
A53A56
.................
ManagementRepresentations................................................
A57A58
.......................
CommunicationsToManagementandWithThoseCharged
WithGovernance.....................................................................
A59A63
...............
CommunicationstoRegulatoryandEnforcementAuthorities.....
A64A66
................
Appendix1:ExamplesofFraudRiskFactors

Appendix2:ExamplesofPossibleAuditProcedurestoAddress
theAssessedRisksofMaterialMisstatementDuetoFraud
Appendix3:ExamplesofCircumstancesthatIndicatethePossibilityofFraud
Acknowledgment
PhilippineStandardonAuditing(PSA)240(Redrafted),TheAuditorsRespon
sibilitiesRelatingtoFraudinanAuditofFinancialStatementsshouldbereadin
thecontextofthePrefacetothePhilippineStandardsonQualityControl,Audit
ing,Review,OtherAssuranceandRelatedServices,whichsetsouttheauthor
ityofPSAs.

Introduction

ScopeofthisPSA
1.
ThisPhilippineStandardonAuditing(PSA)dealswiththeauditorsrespo
nsibilitiesrelatingtofraudinanauditoffinancialstatements.Specificall
y,itexpandsonhowPSA315,IdentifyingandAssessingtheRisksofMat
erialMisstatementThroughUnderstandingtheEntityandItsEnvironm
ent,andPSA330,TheAuditorsResponsestoAssessedRisks,aretob
eappliedinrelationtorisksofmaterialmisstatementduetofraud.
CharacteristicsofFraud
1

Misstatementsinthefinancialstatementscanarisefromeitherfraudor
error.Thedistinguishingfactorbetweenfraudanderroriswhethertheu
nderlyingactionthatresultsinthemisstatementofthefinancialstatem
entsisintentionalorunintentional.
Althoughfraudisabroadlegalconcept,forthepurposesofthePSAs,the
auditorisconcernedwithfraudthatcausesamaterialmisstatementint
hefinancialstatements.Twotypesofintentionalmisstatementsarerel
evanttotheauditor
misstatementsresultingfromfraudulentfinancialreportingandmisst
atementsresultingfrommisappropriationofassets.Althoughtheaudit
ormaysuspector,inrarecases,identifytheoccurrenceoffraud,theaudi
tordoesnotmakelegaldeterminationsofwhetherfraudhasactuallyoc
curred.(Ref:Para.A1A6)

ResponsibilityforthePreventionandDetectionofFraud
4.
Theprimaryresponsibilityforthepreventionanddetectionoffraudrest
swithboththosechargedwithgovernanceoftheentityandmanageme
nt.Itisimportantthatmanagement,withtheoversightofthosecharged

withgovernance,placeastrongemphasisonfraudprevention,whichm
ayreduceopportunitiesforfraudtotakeplace,andfrauddeterrence,wh
ichcouldpersuadeindividualsnottocommitfraudbecauseofthelikelih
oodofdetectionandpunishment.Thisinvolvesacommitmenttocreati
ngacultureofhonestyandethicalbehaviorwhichcanbereinforcedbya
nactiveoversightbythosechargedwithgovernance.Inexercisingover
sightresponsibility,thosechargedwithgovernanceconsiderthepoten
tialforoverrideofcontrolsorotherinappropriateinfluenceoverthefina
ncialreportingprocess,suchaseffortsbymanagementtomanageearn
ingsinordertoinfluencetheperceptionsofanalystsastotheentitysper
formanceandprofitability.
ResponsibilitiesoftheAuditor
1. 5.

AnauditorconductinganauditinaccordancewithPSAsisresponsibl
eforobtainingreasonableassurancethatthefinancialstatementst
akenasawholearefreefrommaterialmisstatement,whethercause
dbyfraudorerror.Asdescribed
2. inPSA200,ObjectiveandGeneralPrinciplesGoverninganAuditofFi
nancialStatements,owingtotheinherentlimitationsofanaudit,th
ereisanunavoidableriskthatsomematerialmisstatementsofthefi
nancialstatementswillnotbedetected,eventhoughtheauditispro
perlyplannedandperformedinaccordancewiththePSAs.
Theriskofnotdetectingamaterialmisstatementresultingfromfraudis
higherthantheriskofnotdetectingoneresultingfromerror.Thisisbeca
usefraudmayinvolvesophisticatedandcarefullyorganizedschemesd
esignedtoconcealit,suchasforgery,deliberatefailuretorecordtransa
ctions,orintentionalmisrepresentationsbeingmadetotheauditor.Suc
hattemptsatconcealmentmaybeevenmoredifficulttodetectwhenac
companiedbycollusion.Collusionmaycausetheauditortobelievethat
auditevidenceispersuasivewhenitis,infact,false.Theauditorsability
todetectafrauddependsonfactorssuchastheskillfulnessoftheperpet
rator,thefrequencyandextentofmanipulation,thedegreeofcollusioni
nvolved,therelativesizeofindividualamountsmanipulated,andthese
niorityofthoseindividualsinvolved.Whiletheauditormaybeabletoide
ntifypotentialopportunitiesforfraudtobeperpetrated,itisdifficultfort
heauditortodeterminewhethermisstatementsinjudgmentareassuc
hasaccountingestimatesarecausedbyfraudorerror.
Furthermore,theriskoftheauditornotdetectingamaterialmisstateme
ntresultingfrommanagementfraudisgreaterthanforemployeefraud,
becausemanagementisfrequentlyinapositiontodirectlyorindirectly
manipulateaccountingrecords,presentfraudulentfinancialinformati
onoroverridecontrolproceduresdesignedtopreventsimilarfraudsby
otheremployees.
Whenobtainingreasonableassurance,theauditorisresponsibleforma
intaininganattitudeofprofessionalskepticismthroughouttheaudit,co

nsideringthepotentialformanagementoverrideofcontrolsandrecogn
izingthefactthatauditproceduresthatareeffectivefordetectingerror
maynotbeeffectiveindetectingfraud.TherequirementsinthisPSAare
designedtoassisttheauditorinidentifyingandassessingtherisksofma
terialmisstatementduetofraudandindesigningprocedurestodetects
uchmisstatement.
EffectiveDate
9.
ThisPSAiseffectiveforauditsoffinancialstatementsforperiodsbegin
ningonorafterDecember15,2009.

Objectives
10.
1
2

Theobjectivesoftheauditorare:
(a)
Toidentifyandassesstherisksofmaterialmisstatementofthefinancial
statementsduetofraud;
(b)
Toobtainsufficientappropriateauditevidenceabouttheassessedrisks
ofmaterialmisstatementduetofraud,throughdesigningandimpleme
ntingappropriateresponses;and
(c) Torespondappropriatelytoidentifiedorsuspectedfraud.

Definitions
11.
ForpurposesofthePSAs,thefollowingtermshavethemeaningsat
tributedbelow:
1

(a) Fraud
Anintentionalactbyoneormoreindividualsamongmanagement,thos
echargedwithgovernance,employees,orthirdparties,involvingtheu
seofdeceptiontoobtainanunjustorillegaladvantage.
(b) Fraudriskfactors
Eventsorconditionsthatindicateanincentiveorpressuretocommitfra
udorprovideanopportunitytocommitfraud.

Requirements
ProfessionalSkepticism
1

InaccordancewithPSA200,theauditorshallmaintainanattitudeofprof
essionalskepticismthroughouttheaudit,recognizingthepossibilityth

atamaterialmisstatementduetofraudcouldexist,notwithstandingth
eauditorspastexperienceofthehonestyandintegrityoftheentitysm
anagementandthosechargedwithgovernance.(Ref:Para.A7A8)
Unlesstheauditorhasreasontobelievethecontrary,theauditormayac
ceptrecordsanddocumentsasgenuine.Ifconditionsidentifiedduringt
heauditcausetheauditortobelievethatadocumentmaynotbeauthen
ticorthattermsinadocumenthavebeenmodifiedbutnotdisclosedtoth
eauditor,theauditorshallinvestigatefurther.(Ref:Para.A9)
Whereresponsestoinquiriesofmanagementorthosechargedwithgov
ernanceareinconsistent,theauditorshallinvestigatetheinconsistenc
ies.

DiscussionAmongtheEngagementTeam
15.
PSA315requiresadiscussionamongtheengagementteammembersa
ndadeterminationbytheengagementpartnerofwhichmattersaretob
ecommunicatedtothoseteammembersnotinvolvedinthediscussion.
Thisdiscussionshallplaceparticularemphasisonhowandwheretheen
titysfinancialstatementsmaybesusceptibletomaterialmisstatemen
tduetofraud,includinghowfraudmightoccur.Thediscussionshalloccu
rsettingasidebeliefsthattheengagementteammembersmayhaveth
atmanagementandthosechargedwithgovernancearehonestandhav
eintegrity.(Ref:Para.A10A11)
RiskAssessmentProceduresandRelatedActivities
16.
Whenperformingriskassessmentproceduresandrelatedactivitiesto
obtainanunderstandingoftheentityanditsenvironment,includingth
eentitysinternalcontrol,requiredbyISA315,theauditorshallperform
theproceduresinparagraphs1724toobtaininformationforuseinidentifyingtherisksofmaterialmisst
atementduetofraud.
ManagementandOtherswithintheEntity
17.
1

Theauditorshallmakeinquiriesofmanagementregarding:
(a)
Managementsassessmentoftheriskthatthefinancialstatementsma
ybemateriallymisstatedduetofraud,includingthenature,extentandf
requencyofsuchassessments;(Ref:Para.A12A13)
(b)
Managementsprocessforidentifyingandrespondingtotherisksoffra
udintheentity,includinganyspecificrisksoffraudthatmanagementha

sidentifiedorthathavebeenbroughttoitsattention,orclassesoftransa
ctions,accountbalances,ordisclosuresforwhichariskoffraudislikelyt
oexist;(Ref:Para.
A14)

1
2

(c)
Managementscommunication,ifany,tothosechargedwithgovernan
ceregardingitsprocessesforidentifyingandrespondingtotherisksoffr
audintheentity;and
(d)
Managementscommunication,ifany,toemployeesregardingitsview
sonbusinesspracticesandethicalbehavior.
Theauditorshallmakeinquiriesofmanagement,andotherswithinthee
ntityasappropriate,todeterminewhethertheyhaveknowledgeofany
actual,suspectedorallegedfraudaffectingtheentity.(Ref:Para.A15A17)
Forthoseentitiesthathaveaninternalauditfunction,theauditorshallm
akeinquiriesofinternalaudittodeterminewhetherithasknowledgeofa
nyactual,suspectedorallegedfraudaffectingtheentity,andtoobtainit
sviewsabouttherisksoffraud.(Ref:Para.A18)

ThoseChargedwithGovernance
1. 20.

Unlessallofthosechargedwithgovernanceareinvolvedinmanagin
gtheentity,theauditorshallobtainanunderstandingofhowthosech
argedwithgovernanceexerciseoversightofmanagementsproces
sesforidentifyingandrespondingto
2. therisksoffraudintheentityandtheinternalcontrolthatmanageme
nthasestablishedtomitigatetheserisks.(Ref:Para.A19A21)
Theauditorshallmakeinquiriesofthosechargedwithgovernancetodet
erminewhethertheyhaveknowledgeofanyactual,suspectedorallege
dfraudaffectingtheentity.Theseinquiriesaremadeinparttocorrobora
tetheresponsestotheinquiriesofmanagement.

UnusualorUnexpectedRelationshipsIdentified
22.
Theauditorshallevaluatewhetherunusualorunexpectedrelationshi
psthathavebeenidentifiedinperforminganalyticalprocedures,inclu
dingthoserelatedtorevenueaccounts,mayindicaterisksofmaterial
misstatementduetofraud.
OtherInformation
23.

Theauditorshallconsiderwhetherotherinformationobtainedbyth
eauditorindicatesrisksofmaterialmisstatementduetofraud.
(Ref:Para.A22)

EvaluationofFraudRiskFactors
24.
Theauditorshallevaluatewhethertheinformationobtainedfromtheot
herriskassessmentproceduresandrelatedactivitiesperformedindica
testhatoneormorefraudriskfactorsarepresent.Whilefraudriskfactor
smaynotnecessarilyindicatetheexistenceoffraud,theyhaveoftenbe
enpresentincircumstanceswherefraudshaveoccurredandtherefore
mayindicaterisksofmaterialmisstatementduetofraud.(Ref:Para.A23A27)

IdentificationandAssessmentoftheRisksofMaterialMisstatementDuetoFra
ud
1

InaccordancewithPSA315,theauditorshallidentifyandassesstherisk
sofmaterialmisstatementduetofraudatthefinancialstatementlevel,
andattheassertionlevelforclassesoftransactions,accountbalancesa
nddisclosures.
Whenidentifyingandassessingtherisksofmaterialmisstatementduet
ofraud,theauditorshall,basedonapresumptionthattherearerisksoffr
audinrevenuerecognition,evaluatewhichtypesofrevenue,revenuetr
ansactionsorassertionsgiverisetosuchrisks.Paragraph47specifiesth
edocumentationrequiredwhentheauditorconcludesthatthepresum
ptionisnotapplicableinthecircumstancesoftheengagementand,acc
ordingly,hasnotidentifiedrevenuerecognitionasariskofmaterialmiss
tatementduetofraud.(Ref:Para.A28A30)
Theauditorshalltreatthoseassessedrisksofmaterialmisstatementdu
etofraudassignificantrisksandaccordingly,totheextentnotalreadyd
oneso,theauditorshallobtainanunderstandingoftheentitysrelatedc
ontrols,includingcontrolactivities,relevanttosuchrisks.(Ref:Para.A31A32)

ResponsestotheAssessedRisksofMaterialMisstatementDuetoFraud
OverallResponses
1

InaccordancewithPSA330,theauditorshalldetermineoverallrespons
estoaddresstheassessedrisksofmaterialmisstatementduetofraudat
thefinancialstatementlevel.(Ref:Para.A33)
1. 29.
Indeterminingoverallresponsestoaddresstheassessedrisksofma
terialmisstatementduetofraudatthefinancialstatementlevel,the

auditorshall:
2. (a)
Assignandsupervisepersonneltakingaccountoftheknowledge,ski
llandabilityoftheindividualstobegivensignificantengagementres
ponsibilitiesandtheauditorsassessmentoftherisksofmaterialmis
statementduetofraudfortheengagement;(Ref:Para.A34A35)
3. (b)
Evaluatewhethertheselectionandapplicationofaccountingpolici
esbytheentity,particularlythoserelatedtosubjectivemeasureme
ntsandcomplextransactions,maybeindicativeoffraudulentfinanc
ialreportingresultingfrommanagementsefforttomanageearning
s;and
4. (c)
Incorporateanelementofunpredictabilityintheselectionofthenat
ure,timingandextentofauditprocedures.(Ref:Para.A36)
AuditProceduresResponsivetoAssessedRisksofMaterialMisstatementD
uetoFraudattheAssertionLevel
30.
InaccordancewithPSA330,theauditorshalldesignandperformfurther
auditprocedureswhosenature,timingandextentareresponsivetothe
assessedrisksofmaterialmisstatementduetofraudattheassertionlev
el.(Ref:Para.A37A40)
AuditProceduresResponsivetoRisksRelatedtoManagementOverrideofCo
ntrols
1

Managementisinauniquepositiontoperpetratefraudbecauseofman
agementsabilitytomanipulateaccountingrecordsandpreparefraud
ulentfinancialstatementsbyoverridingcontrolsthatotherwiseappear
tobeoperatingeffectively.Althoughthelevelofriskofmanagementove
rrideofcontrolswillvaryfromentitytoentity,theriskisneverthelesspre
sentinallentities.Duetotheunpredictablewayinwhichsuchoverridec
ouldoccur,itisariskofmaterialmisstatementduetofraudandthusasig
nificantrisk.
1. 32.
Irrespectiveoftheauditorsassessmentoftherisksofmanagement
overrideofcontrols,theauditorshalldesignandperformauditproce
duresto:
2. (a)
Testtheappropriatenessofjournalentriesrecordedinthegeneralle
dgerandotheradjustmentsmadeinthepreparationofthefinancials
tatements.Indesigningandperformingauditproceduresforsuchte
sts,theauditorshall:
3. (i)

Makeinquiriesofindividualsinvolvedinthefinancialreportingproce
ssaboutinappropriateorunusualactivityrelatingtotheprocessing
ofjournalentriesandotheradjustments;
4. (ii)
Selectjournalentriesandotheradjustmentsmadeattheendofarep
ortingperiod;and
5. (iii)
Considertheneedtotestjournalentriesandotheradjustmentsthro
ughouttheperiod.(Ref:Para.A41A44)
6. (b)
Reviewaccountingestimatesforbiasesandevaluatewhethertheci
rcumstancesproducingthebias,ifany,representariskofmaterialmi
sstatementduetofraud.Inperformingthisreview,theauditorshall:
7. (i)
Evaluatewhetherthejudgmentsanddecisionsmadebymanageme
ntinmakingtheaccountingestimatesincludedinthefinancialstate
ments,eveniftheyareindividuallyreasonable,indicateapossiblebi
asonthepartoftheentitysmanagementthatmayrepresentariskof
materialmisstatementduetofraud.Ifso,theauditorshallreevaluat
etheaccountingestimatestakenasawhole;and
8. (ii)
Performaretrospectivereviewofmanagementjudgmentsandassu
mptionsrelatedtosignificantaccountingestimatesreflectedinthe
financialstatementsoftheprioryear.(Ref:Para.A45A46)
9. (c)
Forsignificanttransactionsthatareoutsidethenormalcourseofbusi
nessfortheentity,orthatotherwiseappeartobeunusualgiventhea
uditorsunderstandingoftheentityanditsenvironmentandotherin
formationobtainedduringtheaudit,theauditorshallevaluatewhet
herthebusinessrationale(orthelackthereof)ofthetransactionssug
geststhattheymayhavebeenenteredintotoengageinfraudulentfi
nancialreportingortoconcealmisappropriationofassets.
(Ref:Para.A47)

Theauditorshalldeterminewhether,inordertorespondtotheidentifie
drisksofmanagementoverrideofcontrols,theauditorneedstoperform
otherauditproceduresinadditiontothosespecificallyreferredtoabove
(i.e.,whentherearespecificadditionalrisksofmanagementoverrideth
atarenotcoveredaspartoftheproceduresperformedtoaddressthereq
uirementsinparagraph32).
Theauditorshallevaluatewhetheranalyticalproceduresthatareperfo
rmedwhenforminganoverallconclusionastowhetherthefinancialstat
ementsasawholeareconsistentwiththeauditorsunderstandingofth
eentityanditsenvironmentindicateapreviouslyunrecognizedriskofm

aterialmisstatementduetofraud.
EvaluationofAuditEvidence(Ref:Para.A48)
(Ref:Para.A49)

35.
Whentheauditoridentifiesamisstatement,theauditorshallevaluatew
hethersuchamisstatementisindicativeoffraud.Ifthereissuchanindic
ation,theauditorshallevaluatetheimplicationsofthemisstatementinr
elationtootheraspectsoftheaudit,particularlythereliabilityofmanag
ementrepresentations,recognizingthataninstanceoffraudisunlikely
tobeanisolatedoccurrence.(Ref:
Para.A50)

36.
Iftheauditoridentifiesamisstatement,whethermaterialornot,andthe
auditorhasreasontobelievethatitisormaybetheresultoffraudandthat
management(inparticular,seniormanagement)isinvolved,theaudit
orshallreevaluatetheassessmentoftherisksofmaterialmisstatement
duetofraudanditsresultingimpactonthenature,timingandextentofa
uditprocedurestorespondtotheassessedrisks.Theauditorshallalsoc
onsiderwhethercircumstancesorconditionsindicatepossiblecollusio
ninvolvingemployees,managementorthirdpartieswhenreconsideri
ngthereliabilityofevidencepreviouslyobtained.(Ref:
Para.A51)

37.
Whentheauditorconfirmsthat,orisunabletoconcludewhether,thefi
nancialstatementsaremateriallymisstatedasaresultoffraudtheau
ditorshallevaluatetheimplicationsfortheaudit.(Ref:Para.A52)
AuditorUnabletoContinuetheEngagement
38.
If,asaresultofamisstatementresultingfromfraudorsuspectedfr
aud,theauditorencountersexceptionalcircumstancesthatbring
intoquestiontheauditorsabilitytocontinueperformingtheaudit
,theauditorshall:
1

(a)
Determinetheprofessionalandlegalresponsibilitiesapplicableinthec
ircumstances,includingwhetherthereisarequirementfortheauditort
oreporttothepersonorpersonswhomadetheauditappointmentor,ins
omecases,toregulatoryauthorities;

(b)
Considerwhetheritisappropriatetowithdrawfromtheengagement,w
herewithdrawalfromtheengagementislegallypermitted;and
1 (c) Iftheauditorwithdraws:
2 (i)

Discusswiththeappropriatelevelofmanagementandthosecharge
dwithgovernancetheauditorswithdrawalfromtheengagementa
ndthereasonsforthewithdrawal;and
(ii)
Determinewhetherthereisaprofessionalorlegalrequirementtore
porttothepersonorpersonswhomadetheauditappointmentor,ins
omecases,toregulatoryauthorities,theauditorswithdrawalfromt
heengagementandthereasonsforthewithdrawal.(Ref:Para.A53A56)

ManagementRepresentations
39.
Theauditorshallobtainwrittenrepresentationsfrommanagementtha
t:
1
2

(a)
Itacknowledgesitsresponsibilityforthedesign,implementationandm
aintenanceofinternalcontroltopreventanddetectfraud;
(b)
Ithasdisclosedtotheauditortheresultsofitsassessmentoftheriskthatt
hefinancialstatementsmaybemateriallymisstatedasaresultoffraud;
1 (c)
Ithasdisclosedtotheauditoritsknowledgeoffraudorsuspectedfrau
daffectingtheentityinvolving:
2 (i) Management;
3 (ii) Employeeswhohavesignificantrolesininternalcontrol;or
4 (iii)
Otherswherethefraudcouldhaveamaterialeffectonthefinancialst
atements;and

(d)
Ithasdisclosedtotheauditoritsknowledgeofanyallegationsoffraud,or
suspectedfraud,affectingtheentitysfinancialstatementscommunic
atedbyemployees,formeremployees,analysts,regulatorsorothers.
(Ref:Para.A57
A58)

CommunicationsToManagementandWithThoseChargedWithGovernance
1

Iftheauditorhasidentifiedafraudorhasobtainedinformationthatindic

atesthatafraudmayexist,theauditorshallcommunicatethesematter
sonatimelybasistotheappropriatelevelofmanagementinordertoinfo
rmthosewithprimaryresponsibilityforthepreventionanddetectionoff
raudofmattersrelevanttotheirresponsibilities.(Ref:Para.A59)
1 41.

Unlessallofthosechargedwithgovernanceareinvolvedinmanagin
gtheentity,iftheauditorhasidentifiedorsuspectsfraudinvolving:
2 (a) Management;
3 (b) Employeeswhohavesignificantrolesininternalcontrol;or
4 (c)
Otherswherethefraudresultsinamaterialmisstatementinthefina
ncialstatements,theauditorshallcommunicatethesematterstoth
osechargedwithgovernanceonatimelybasis.Iftheauditorsuspect
sfraudinvolvingmanagement,theauditorshallcommunicatethes
esuspicionstothosechargedwithgovernanceanddiscusswiththe
mthenature,timingandextentofauditproceduresnecessarytoco
mpletetheaudit.(Ref:Para.A60A62)
InaccordancewithPSA260(Revised),CommunicationwithThoseCha
rged
1

withGovernance,theauditorshallcommunicatewiththosecharged
withgovernanceanyothermattersrelatedtofraudthatare,intheaudit
orsjudgment,relevanttotheirresponsibilities.(Ref:Para.A63)
CommunicationstoRegulatoryandEnforcementAuthorities
43.
Iftheauditorhasidentifiedorsuspectsafraud,theauditorshalldeter
minewhetherthereisaresponsibilitytoreporttheoccurrenceorsusp
iciontoapartyoutsidetheentity.Althoughtheauditorsprofessional
dutytomaintaintheconfidentialityofclientinformationmaypreclud
esuchreporting,theauditorslegalresponsibilitiesmayoverridethe
dutyofconfidentialityinsomecircumstances.(Ref:Para.A64A66)
Documentation
44.
Theauditorsdocumentationoftheunderstandingoftheentityanditse
nvironmentandtheassessmentoftherisksofmaterialmisstatementre
quiredbyISA315shallinclude:
1

(a)
Thesignificantdecisionsreachedduringthediscussionamongtheeng
agementteamregardingthesusceptibilityoftheentitysfinancialstate

mentstomaterialmisstatementduetofraud;and
(b)
Theidentifiedandassessedrisksofmaterialmisstatementduetofraud
atthefinancialstatementlevelandattheassertionlevel.

CloseoffdocumentapprovedMay2006.

45.
Theauditorsdocumentationoftheresponsestotheassessedrisks
ofmaterialmisstatementrequiredbyPSA330shallinclude:
1

1
2

(a)
Theoverallresponsestotheassessedrisksofmaterialmisstatementdu
etofraudatthefinancialstatementlevelandthenature,timingandexte
ntofauditprocedures,andthelinkageofthoseprocedureswiththeasse
ssedrisksofmaterialmisstatementduetofraudattheassertionlevel;a
nd
(b)
Theresultsoftheauditprocedures,includingthosedesignedtoaddress
theriskofmanagementoverrideofcontrols.
Theauditorshalldocumentcommunicationsaboutfraudmadetoman
agement,thosechargedwithgovernance,regulatorsandothers.
Whentheauditorhasconcludedthatthepresumptionthatthereisarisk
ofmaterialmisstatementduetofraudrelatedtorevenuerecognitionis
notapplicableinthecircumstancesoftheengagement,theauditorshal
ldocumentthereasonsforthatconclusion.
***

ApplicationandOtherExplanatoryMaterial
CharacteristicsofFraud(Ref:Para.3)
A1.Fraud,whetherfraudulentfinancialreportingormisappropriationofass
ets,involvesincentiveorpressuretocommitfraud,aperceivedopport
unitytodosoandsomerationalizationoftheact.Forexample:
1

Incentiveorpressuretocommitfraudulentfinancialreportingmayexis
twhenmanagementisunderpressure,fromsourcesoutsideorinsideth
eentity,toachieveanexpected(andperhapsunrealistic)earningstarg
etorfinancialoutcome
particularlysincetheconsequencestomanagementforfailingtomeet
financialgoalscanbesignificant.Similarly,individualsmayhaveaninc
entivetomisappropriateassets,forexample,becausetheindividualsa
relivingbeyondtheirmeans.
Aperceivedopportunitytocommitfraudmayexistwhenanindividualb
elievesinternalcontrolcanbeoverridden,forexample,becausetheindi

vidualisinapositionoftrustorhasknowledgeofspecificweaknessesini
nternalcontrol.
Individualsmaybeabletorationalizecommittingafraudulentact.Som
eindividualspossessanattitude,characterorsetofethicalvaluesthata
llowthemknowinglyandintentionallytocommitadishonestact.Howe
ver,even
otherwisehonestindividualscancommitfraudinanenviron
mentthatimposessufficientpressureonthem.

A2.Fraudulentfinancialreportinginvolvesintentionalmisstatementsincludi
ngomissionsofamountsordisclosuresinfinancialstatementstodeceiv
efinancialstatementusers.Itcanbecausedbytheeffortsofmanageme
nttomanageearningsinordertodeceivefinancialstatementusersbyin
fluencingtheirperceptionsastotheentitysperformanceandprofitabil
ity.Suchearningsmanagementmaystartoutwithsmallactionsorinap
propriateadjustmentofassumptionsandchangesinjudgmentsbyma
nagement.Pressuresandincentivesmayleadtheseactionstoincrease
totheextentthattheyresultinfraudulentfinancialreporting.Suchasitu
ationcouldoccurwhen,duetopressurestomeetmarketexpectationso
radesiretomaximizecompensationbasedonperformance,managem
entintentionallytakespositionsthatleadtofraudulentfinancialreporti
ngbymateriallymisstatingthefinancialstatements.Insomeentities,
managementmaybemotivatedtoreduceearningsbyamaterialamou
nttominimizetaxortoinflateearningstosecurebankfinancing.
A3.Fraudulentfinancialreportingmaybeaccomplishedbythefollowing:
Manipulation,falsification(includingforgery),oralterationofaccounti
ngrecordsorsupportingdocumentationfromwhichthefinancialstate
mentsareprepared.
Misrepresentationin,orintentionalomissionfrom,thefinancialstatem
entsofevents,transactionsorothersignificantinformation.
Intentionalmisapplicationofaccountingprinciplesrelatingtoamounts
,classification,mannerofpresentation,ordisclosure.
A4.Fraudulentfinancialreportingofteninvolvesmanagementoverrideofcon
trolsthatotherwisemayappeartobeoperatingeffectively.Fraudcanbe
committedbymanagementoverridingcontrolsusingsuchtechniques
as:
1
2
3

Recordingfictitiousjournalentries,particularlyclosetotheendofanacc
ountingperiod,tomanipulateoperatingresultsorachieveotherobjecti
ves.
Inappropriatelyadjustingassumptionsandchangingjudgmentsusedt
oestimateaccountbalances.
Omitting,advancingordelayingrecognitioninthefinancialstatements
ofeventsandtransactionsthathaveoccurredduringthereportingperi

4
5
6

od.
Concealing,ornotdisclosing,factsthatcouldaffecttheamountsrecord
edinthefinancialstatements.
Engagingincomplextransactionsthatarestructuredtomisrepresentt
hefinancialpositionorfinancialperformanceoftheentity.
Alteringrecordsandtermsrelatedtosignificantandunusualtransactio
ns.

A5.Misappropriationofassetsinvolvesthetheftofanentitysassetsandisofte
nperpetratedbyemployeesinrelativelysmallandimmaterialamounts
.However,itcanalsoinvolvemanagementwhoareusuallymoreableto
disguiseorconcealmisappropriationsinwaysthataredifficulttodetect
.Misappropriationofassetscanbeaccomplishedinavarietyofwaysincl
uding:
1
2

Embezzlingreceipts(forexample,misappropriatingcollectionsonacc
ountsreceivableordivertingreceiptsinrespectofwrittenoffaccountstopersonalbankaccounts).
Stealingphysicalassetsorintellectualproperty(forexample,stealingi
nventoryforpersonaluseorforsale,stealingscrapforresale,colluding
withacompetitorbydisclosingtechnologicaldatainreturnforpayment
).
Causinganentitytopayforgoodsandservicesnotreceived(forexampl
e,paymentstofictitiousvendors,kickbackspaidbyvendorstotheentit
yspurchasingagentsinreturnforinflatingprices,paymentstofictitiou
semployees).
Usinganentitysassetsforpersonaluse(forexample,usingtheentitys
assetsascollateralforapersonalloanoraloantoarelatedparty).
Misappropriationofassetsisoftenaccompaniedbyfalseormisleadingr
ecordsordocumentsinordertoconcealthefactthattheassetsaremissi
ngorhavebeenpledgedwithoutproperauthorization.

ConsiderationsSpecifictoPublicSectorEntities
A6.Thepublicsectorauditorsresponsibilitiesrelatingtofraudmaybearesult
oflegislationandregulation,ministerialdirectives,governmentpolicy
requirementsandresolutionsofthelegislatureapplicabletopublicsec
torentitiesorseparatelycoveredbytheauditorsmandate.Conseque
ntly,thepublicsectorauditorsresponsibilitiesmaynotbelimitedtoco
nsiderationofrisksofmaterialmisstatementofthefinancialstatemen
ts,butmayalsoincludeabroaderresponsibilitytoconsiderrisksoffrau
d.
ProfessionalSkepticism(Ref:Para.1214)
A7.Professionalskepticismisanattitudethatincludesaquestioningmindan
dacriticalassessmentofauditevidence.Maintaininganattitudeofpr
ofessionalskepticismrequiresanongoingquestioningofwhetherthe

informationandauditevidenceobtainedsuggeststhatamaterialmis
statementduetofraudmayexist.Itincludesconsideringthereliability
oftheinformationtobeusedasauditevidenceandthecontrolsoverits
preparationandmaintenancewhererelevant.Duetothecharacterist
icsoffraud,theauditorsattitudeofprofessionalskepticismisparticul
arlyimportantwhenconsideringtherisksofmaterialmisstatementd
uetofraud.
A8.Althoughtheauditorcannotbeexpectedtodisregardpastexperienceoft
hehonestyandintegrityoftheentitysmanagementandthosecharge
dwithgovernance,theauditorsattitudeofprofessionalskepticismis
particularlyimportantinconsideringtherisksofmaterialmisstateme
ntduetofraudbecausetheremayhavebeenchangesincircumstance
s.
A9.AsexplainedinPSA200,anauditperformedinaccordancewithPSAsrarely
involvestheauthenticationofdocuments,noristheauditortrainedaso
rexpectedtobeanexpertinsuchauthentication.However,whentheau
ditoridentifiesconditionsthatcausetheauditortobelievethatadocum
entmaynotbeauthenticorthattermsinadocumenthavebeenmodifie
dbutnotdisclosedtotheauditor,possibleprocedurestoinvestigatefurt
hermayinclude:
Confirmingdirectlywiththethirdparty.
Usingtheworkofanexperttoassessthedocumentsauthenticity.
DiscussionAmongtheEngagementTeam(Ref:Para.15)
A10.Discussingthesusceptibilityoftheentitysfinancialstatementsto
materialmisstatementduetofraudwiththeengagementteam:
Providesanopportunityformoreexperiencedengagementteammem
berstosharetheirinsightsabouthowandwherethefinancialstatement
smaybesusceptibletomaterialmisstatementduetofraud.
Enablestheauditortoconsideranappropriateresponsetosuchsuscept
ibilityandtodeterminewhichmembersoftheengagementteamwillco
nductcertainauditprocedures.
Permitstheauditortodeterminehowtheresultsofauditprocedureswill
besharedamongtheengagementteamandhowtodealwithanyallegat
ionsoffraudthatmaycometotheauditorsattention.
A11.Thediscussionmayincludesuchmattersas:
1.
Anexchangeofideasamongengagementteammembersaboutho
wandwheretheybelievetheentitysfinancialstatementsmaybesu
sceptibletomaterialmisstatementduetofraud,howmanagement

couldperpetrateand
2. concealfraudulentfinancialreporting,andhowassetsoftheentityc
ouldbemisappropriated.
2 Aconsiderationofcircumstancesthatmightbeindicativeofearningsm
anagementandthepracticesthatmightbefollowedbymanagementto
manageearningsthatcouldleadtofraudulentfinancialreporting.
3 Aconsiderationoftheknownexternalandinternalfactorsaffectingthe
entitythatmaycreateanincentiveorpressureformanagementorother
stocommitfraud,providetheopportunityforfraudtobeperpetrated,a
ndindicateacultureorenvironmentthatenablesmanagementorother
storationalizecommittingfraud.
4 Aconsiderationofmanagementsinvolvementinoverseeingemploye
eswithaccesstocashorotherassetssusceptibletomisappropriation.
5 Aconsiderationofanyunusualorunexplainedchangesinbehaviororlif
estyleofmanagementoremployeeswhichhavecometotheattentiono
ftheengagementteam.
6 Anemphasisontheimportanceofmaintainingaproperstateofmindthr
oughouttheauditregardingthepotentialformaterialmisstatementdu
etofraud.
7 Aconsiderationofthetypesofcircumstancesthat,ifencountered,migh
tindicatethepossibilityoffraud.
8 Aconsiderationofhowanelementofunpredictabilitywillbeincorporat
edintothenature,timingandextentoftheauditprocedurestobeperfor
med.
9 Aconsiderationoftheauditproceduresthatmightbeselectedtorespon
dtothesusceptibilityoftheentitysfinancialstatementtomaterialmiss
tatementduetofraudandwhethercertaintypesofauditproceduresare
moreeffectivethanothers.
10 Aconsiderationofanyallegationsoffraudthathavecometotheauditor
sattention.
11 Aconsiderationoftheriskofmanagementoverrideofcontrols.
RiskAssessmentProceduresandRelatedActivities
InquiriesofManagement
ManagementsAssessmentoftheRiskofMaterialMisstatementDuetoFraud
(Ref:Para.17(a))

A12.Managementisresponsiblefortheentitysinternalcontrolandforthepre
parationofthefinancialstatements.Accordingly,itisappropriateforth
eauditortomakeinquiriesofmanagementregardingmanagementso
wnassessmentoftheriskoffraudandthecontrolsinplacetopreventand
detectit.Thenature,extentandfrequencyofmanagementsassessme
ntofsuchriskandcontrolsmayvaryfromentitytoentity.Insomeentities
,managementmaymakedetailedassessmentsonanannualbasisoras
partofcontinuousmonitoring.Inotherentities,managementsassess
mentmaybelessstructuredandlessfrequent.Thenature,extentandfr

equencyofmanagementsassessmentarerelevanttotheauditorsun
derstandingoftheentityscontrolenvironment.Forexample,thefactth
atmanagementhasnotmadeanassessmentoftheriskoffraudmayins
omecircumstancesbeindicativeofthelackofimportancethatmanage
mentplacesoninternalcontrol.
Considerationsspecifictosmallerentities
A13.Insomeentities,particularlysmallerentities,thefocusofmanagement
sassessmentmaybeontherisksofemployeefraudormisappropriati
onofassets.
ManagementsProcessforIdentifyingandRespondingtotheRisksofFraud(
Ref:Para.17(b))

A14.Inthecaseofentitieswithmultiplelocationsmanagementsprocesses
mayincludedifferentlevelsofmonitoringofoperatinglocations,orbus
inesssegments.Managementmayalsohaveidentifiedparticularoper
atinglocationsorbusinesssegmentsforwhichariskoffraudmaybemo
relikelytoexist.
InquiryofManagementandOtherswithintheEntity(Ref:Para.18)
A15.Theauditorsinquiriesofmanagementmayprovideusefulinformation
concerningtherisksofmaterialmisstatementsinthefinancialstatem
entsresultingfromemployeefraud.However,suchinquiriesareunlik
elytoprovideusefulinformationregardingtherisksofmaterialmissta
tementinthefinancialstatementsresultingfrommanagementfraud.
Makinginquiriesofotherswithintheentitymayprovideindividualswit
hanopportunitytoconveyinformationtotheauditorthatmaynotothe
rwisebecommunicated.
A16.Examplesofotherswithintheentitytowhomtheauditormaydirectin
quiriesabouttheexistenceorsuspicionoffraudinclude:
1
2
3
4
5
6

Operatingpersonnelnotdirectlyinvolvedinthefinancialreportingproc
ess.
Employeeswithdifferentlevelsofauthority.
Employeesinvolvedininitiating,processingorrecordingcomplexorun
usualtransactionsandthosewhosuperviseormonitorsuchemployees
.
Inhouselegalcounsel.
Chiefethicsofficerorequivalentperson.
Thepersonorpersonschargedwithdealingwithallegationsoffraud.

A17.Managementisofteninthebestpositiontoperpetratefraud.Accordingl
y,whenevaluatingmanagementsresponsestoinquirieswithanattit
udeofprofessionalskepticism,theauditormayjudgeitnecessarytoc
orroborateresponsestoinquirieswithotherinformation.

InquiryofInternalAudit(Ref:Para.19)
A18.PSA610,ConsideringtheWorkofInternalAudit,establishesrequireme
ntsandprovidesguidanceinauditsofthoseentitiesthathaveaninterna
lauditfunction.IncarryingouttherequirementofPSA610inthecontext
offraud,theauditormayinquireaboutspecificinternalauditactivitiesin
cluding,forexample:
Theproceduresperformed,ifany,bytheinternalauditorsduringtheye
artodetectfraud.
Whethermanagementhassatisfactorilyrespondedtoanyfindingsres
ultingfromthoseprocedures.
ObtaininganUnderstandingofOversightExercisedbyThoseChargedWithG
overnance
(Ref:Para.20)

A19.Thosechargedwithgovernanceofanentityhaveoversightresponsibilit
yforsystemsformonitoringrisk,financialcontrolandcompliancewitht
helaw.InthePhilippines,certainentitiesarerequiredtodevelopcorpor
ategovernancepracticesandthosechargedwithgovernancearerequi
redtoplayanactiveroleinoversightoftheentitysassessmentoftherisk
soffraudandoftherelevant
2

internalcontrol.Sincetheresponsibilitiesofthosechargedwithgovern
anceandmanagementmayvarybyentity,itisimportantthattheaudit
orunderstandstheirrespectiveresponsibilitiestoenabletheauditorto
obtainanunderstandingofthe
3

oversightexercisedbytheappropriateindividuals.
A20.Anunderstandingoftheoversightexercisedbythosechargedwithgov
ernancemayprovideinsightsregardingthesusceptibilityoftheentit
ytomanagementfraud,theadequacyofinternalcontroloverrisksoff
raud,andthecompetencyandintegrityofmanagement.Theauditor
mayobtainthisunderstandinginanumberofways,suchasbyattendi
ngmeetingswheresuchdiscussionstakeplace,readingtheminutes
fromsuchmeetingsormakinginquiriesofthosechargedwithgovern
ance.
ConsiderationsSpecifictoSmallerEntities
A21.Insomecases,allofthosechargedwithgovernanceareinvolvedinmana
gingtheentity.Thismaybethecaseinasmallentitywhereasingleowner
managestheentityandnooneelsehasagovernancerole.Inthesecases
,thereisordinarilynoactiononthepartoftheauditorbecausethereisno
oversightseparatefrommanagement.
ConsiderationofOtherInformation(Ref:Para.23)

A22.Inadditiontoinformationobtainedfromapplyinganalyticalprocedures,
otherinformationobtainedabouttheentityanditsenvironmentmaybe
helpfulinidentifyingtherisksofmaterialmisstatementduetofraud.Th
ediscussionamongteammembersmayprovideinformationthatishel
pfulinidentifyingsuchrisks.Inaddition,informationobtainedfromthea
uditorsclientacceptanceandretentionprocesses,andexperiencegai
nedonotherengagementsperformedfortheentity,forexampleengag
ementstoreviewinterimfinancialinformation,mayberelevantintheid
entificationoftherisksofmaterialmisstatementduetofraud.
EvaluationofFraudRiskFactors(Ref:Para.24)
A23.Thefactthatfraudisusuallyconcealedcanmakeitverydifficulttod
etect.Nevertheless,theauditormayidentifyeventsorconditions
thatindicatean
2
InthePhilippines,theSecuritiesandExchangeCommission(SEC)promulgatesandimple
mentstheCodeofCorporateGovernancethatrequirestheestablishmentofcorporate
governancepoliciesandpracticesofthefollowingentities:entitieswithregisteredorliste
dsecurities;granteesofpermits/licensesandsecondaryfranchisesfromtheSEC;andpu
bliccompanies.
Also,theBangkoSentralngPilipinas(BSP)requiresbankstocreateauditcommitteesthatwil
lberesponsibleforthesetupofthebanksinternalauditfunctions.
3
PSA260(Revised)discusseswithwhomtheauditorcommunicateswhentheentitysgovern
ancestructureisnotwelldefined.

incentiveorpressuretocommitfraudorprovideanopportunitytocom
mitfraud(fraudriskfactors).Forexample:
Theneedtomeetexpectationsofthirdpartiestoobtainadditionalequit
yfinancingmaycreatepressuretocommitfraud;
Thegrantingofsignificantbonusesifunrealisticprofittargetsaremetm
aycreateanincentivetocommitfraud;and
Acontrolenvironmentthatisnoteffectivemaycreateanopportunityto
commitfraud.
A24.Fraudriskfactorscannoteasilyberankedinorderofimportance.Thesi
gnificanceoffraudriskfactorsvarieswidely.Someofthesefactorswil
lbepresentinentitieswherethespecificconditionsdonotpresentris
ksofmaterialmisstatement.Accordingly,thedeterminationofwhet
herafraudriskfactorispresentandwhetheritistobeconsideredinass
essingtherisksofmaterialmisstatementofthefinancialstatements
duetofraudrequirestheexerciseofprofessionaljudgment.
A25.Examplesoffraudriskfactorsrelatedtofraudulentfinancialreportingan
dmisappropriationofassetsarepresentedinAppendix1.Theseillustra

tiveriskfactorsareclassifiedbasedonthethreeconditionsthataregene
rallypresentwhenfraudexists:
Anincentiveorpressuretocommitfraud;
Aperceivedopportunitytocommitfraud;and
Anabilitytorationalizethefraudulentaction.
Riskfactorsreflectiveofanattitudethatpermitsrationalizationofthefr
audulentactionmaynotbesusceptibletoobservationbytheauditor.Ne
vertheless,theauditormaybecomeawareoftheexistenceofsuchinfor
mation.AlthoughthefraudriskfactorsdescribedinAppendix1coverab
roadrangeofsituationsthatmaybefacedbyauditors,theyareonlyexa
mplesandotherriskfactorsmayexist.
A26.Thesize,complexity,andownershipcharacteristicsoftheentityhaveasi
gnificantinfluenceontheconsiderationofrelevantfraudriskfactors.Fo
rexample,inthecaseofalargeentity,theremaybefactorsthatgenerall
yconstrainimproperconductbymanagement,suchas:
1
2
3

Effectiveoversightbythosechargedwithgovernance.
Aneffectiveinternalauditfunction.
Theexistenceandenforcementofawrittencodeofconduct.
Furthermore,fraudriskfactorsconsideredatabusinesssegmentope
ratinglevelmayprovidedifferentinsightswhencomparedwiththose
obtainedwhenconsideredatanentitywidelevel.

ConsiderationsSpecifictoSmallerEntities
A27.Inthecaseofasmallentity,someoralloftheseconsiderationsmaybeinap
plicableorlessrelevant.Forexample,asmallerentitymaynothaveawri
ttencodeofconductbut,instead,mayhavedevelopedaculturethatem
phasizestheimportanceofintegrityandethicalbehaviorthroughoralc
ommunicationandbymanagementexample.Dominationofmanage
mentbyasingleindividualinasmallentitydoesnotgenerally,inandofit
self,indicateafailurebymanagementtodisplayandcommunicateana
ppropriateattituderegardinginternalcontrolandthefinancialreportin
gprocess.Insomeentities,theneedformanagementauthorizationcan
compensateforotherwiseweakcontrolsandreducetheriskofemploye
efraud.However,dominationofmanagementbyasingleindividualcan
beapotentialweaknesssincethereisanopportunityformanagemento
verrideofcontrols.
IdentificationandAssessmentoftheRisksofMaterialMisstatementDuetoFra
ud
RisksofFraudinRevenueRecognition(Ref:Para.26)

A28.Materialmisstatementduetofraudulentfinancialreportingrelatingtore
venuerecognitionoftenresultsfromanoverstatementofrevenuesthro
ugh,forexample,prematurerevenuerecognitionorrecordingfictitious
revenues.Itmayresultalsofromanunderstatementofrevenuesthroug
h,forexample,improperlyshiftingrevenuestoalaterperiod.
A29.Therisksoffraudinrevenuerecognitionmaybegreaterinsomeentitiesth
anothers.Forexample,theremaybepressuresorincentivesonmanag
ementtocommitfraudulentfinancialreportingthroughinappropriater
evenuerecognitioninthecaseoflistedentitieswhen,forexample,perfo
rmanceismeasuredintermsofyearoveryearrevenuegrowthorprofit.Similarly,forexample,theremaybegreat
errisksoffraudinrevenuerecognitioninthecaseofentitiesthatgenerat
easubstantialportionofrevenuesthroughcashsales.
A30.Thepresumptionthattherearerisksoffraudinrevenuerecognitionmay
berebutted.Forexample,theauditormayconcludethatthereisnorisk
ofmaterialmisstatementduetofraudrelatingtorevenuerecognitioni
nthecasewhereathereisasingletypeofsimplerevenuetransaction,f
orexample,leaseholdrevenuefromasingleunitrentalproperty.
IdentifyingandAssessingtheRisksofMaterialMisstatementDuetoF
raudandUnderstandingtheEntitysRelatedControls(Ref:Para.27)
A31.AsexplainedinPSA315,managementmaymakejudgmentsonthenatur
eandextentofthecontrolsitchoosestoimplement,andthenatureande
xtentoftherisksitchoosestoassume.Indeterminingwhichcontrolstoi
mplementtopreventanddetectfraud,managementconsiderstherisk
sthatthefinancialstatementsmaybemateriallymisstatedasaresulto
ffraud.Aspartofthisconsideration,managementmayconcludethatiti
snotcosteffectivetoimplementandmaintainaparticularcontrolinrela
tiontothereductionintherisksofmaterialmisstatementduetofraudto
beachieved.
A32.Itisthereforeimportantfortheauditortoobtainanunderstandingofthec
ontrolsthatmanagementhasdesigned,implementedandmaintained
topreventanddetectfraud.Indoingso,theauditormaylearn,forexamp
le,thatmanagementhasconsciouslychosentoaccepttherisksassocia
tedwithalackofsegregationofduties.Informationfromobtainingthisu
nderstandingmayalsobeusefulinidentifyingfraudrisksfactorsthatm
ayaffecttheauditorsassessmentoftherisksthatthefinancialstateme
ntsmaycontainmaterialmisstatementduetofraud.
ResponsestotheAssessedRisksofMaterialMisstatementDuetoFraud
OverallResponses(Ref:Para.28)
A33.Determiningoverallresponsestoaddresstheassessedrisksofmaterial
misstatementduetofraudgenerallyincludestheconsiderationofhow

theoverallconductoftheauditcanreflectincreasedprofessionalskept
icism,forexample,through:
Increasedsensitivityintheselectionofthenatureandextentofdocume
ntationtobeexaminedinsupportofmaterialtransactions.
Increasedrecognitionoftheneedtocorroboratemanagementexplana
tionsorrepresentationsconcerningmaterialmatters.
Italsoinvolvesmoregeneralconsiderationsapartfromthespecificproc
eduresotherwiseplanned;theseconsiderationsincludethematterslis
tedinparagraph29,whicharediscussedbelow.
AssignmentandSupervisionofPersonnel(Ref:Para.29(a))
A34.Theauditormayrespondtoidentifiedrisksofmaterialmisstatementdue
tofraudby,forexample,assigningadditionalindividualswithspecializ
edskillandknowledge,suchasforensicandITexperts,orbyassigning
moreexperiencedindividualstotheengagement.
A35.Theextentofsupervisionreflectstheauditorsassessmentofrisksofmat
erialmisstatementduetofraudandthecompetenciesoftheengageme
ntteammembersperformingthework.
UnpredictabilityintheSelectionofAuditProcedures(Ref:Para.29(c))
A36.Incorporatinganelementofunpredictabilityintheselectionofthenature
,timingandextentofauditprocedurestobeperformedisimportantasin
dividualswithintheentitywhoarefamiliarwiththeauditproceduresnor
mallyperformedonengagementsmaybemoreabletoconcealfraudul
entfinancialreporting.Thiscanbeachievedby,forexample:
Performingsubstantiveproceduresonselectedaccountbalancesand
assertionsnototherwisetestedduetotheirmaterialityorrisk.
Adjustingthetimingofauditproceduresfromthatotherwiseexpected.
Usingdifferentsamplingmethods.
Performingauditproceduresatdifferentlocationsoratlocationsonanu
nannouncedbasis.
AuditProceduresResponsivetoAssessedRisksofMaterialMisstatementD
uetoFraudattheAssertionLevel(Ref:Para.30)
A37.Theauditorsresponsestoaddresstheassessedrisksofmaterialmisstat
ementduetofraudattheassertionlevelmayincludechangingthenatur
e,timing,andextentofauditproceduresinthefollowingways:

Thenatureofauditprocedurestobeperformedmayneedtobechan
gedtoobtainauditevidencethatismorereliableandrelevantortoo

btainadditionalcorroborativeinformation.Thismayaffectboththe
typeofauditprocedurestobeperformedandtheircombination.For
example:
a

oPhysicalobservationorinspectionofcertainassetsmaybecomemore
importantortheauditormaychoosetousecomputerassistedaudittechniquestogathermoreevidenceaboutdatacontaine
dinsignificantaccountsorelectronictransactionfiles.
oTheauditormaydesignprocedurestoobtainadditionalcorroborativei
nformation.Forexample,iftheauditoridentifiesthatmanagementisun
derpressuretomeetearningsexpectations,theremaybearelatedriskt
hatmanagementisinflatingsalesbyenteringintosalesagreementsth
atincludetermsthatprecluderevenuerecognitionorbyinvoicingsales
beforedelivery.Inthesecircumstances,theauditormay,forexample,d
esignexternalconfirmationsnotonlytoconfirm
outstandingamounts,butalsotoconfirmthedetailsofthesal
esagreements,includingdate,anyrightsofreturnanddelive
ryterms.Inaddition,theauditormightfinditeffectivetosuppl
ementsuchexternalconfirmationswithinquiriesofnonfinancialpersonnelintheentityregardinganychangesinsal
esagreementsanddeliveryterms.

Thetimingofsubstantiveproceduresmayneedtobemodified.Theaudi
tormayconcludethatperformingsubstantivetestingatorneartheperi
odendbetteraddressesanassessedriskofmaterialmisstatementduet
ofraud.Theauditormayconcludethat,giventheassessedrisksofintent
ionalmisstatementormanipulation,auditprocedurestoextendauditc
onclusionsfromaninterimdatetotheperiodendwouldnotbeeffective.I
ncontrast,becauseanintentionalmisstatement
forexample,amisstatementinvolvingimproperrevenuerecognition

mayhavebeeninitiatedinaninterimperiod,theauditormayelecttoapp
lysubstantiveprocedurestotransactionsoccurringearlierinorthrough
outthereportingperiod.
Theextentoftheproceduresappliedreflectstheassessmentoftherisks
ofmaterialmisstatementduetofraud.Forexample,increasingsample
sizesorperforminganalyticalproceduresatamoredetailedlevelmayb
eappropriate.Also,computerassistedaudittechniquesmayenablem
oreextensivetestingofelectronictransactionsandaccountfiles.Sucht
echniquescanbeusedtoselectsampletransactionsfromkeyelectroni
cfiles,tosorttransactionswithspecificcharacteristics,ortotestanentir
epopulationinsteadofasample.

A38.Iftheauditoridentifiesariskofmaterialmisstatementduetofraudthat
affectsinventoryquantities,examiningtheentitysinventoryrecor
dsmayhelptoidentifylocationsoritemsthatrequirespecificattenti
onduringorafterthephysicalinventorycount.Suchareviewmaylea

dtoadecisiontoobserveinventorycountsatcertainlocationsonanu
nannouncedbasisortoconductinventorycountsatalllocationsont
hesamedate.
A39.Theauditormayidentifyariskofmaterialmisstatementduetofraudaffe
ctinganumberofaccountsandassertions.Thesemayincludeassetva
luation,estimatesrelatingtospecifictransactions(suchasacquisitio
ns,restructurings,ordisposalsofasegmentofthebusiness),andothe
rsignificantaccruedliabilities(suchaspensionandotherpostemploymentbenefitobligations,orenvironmentalremediationliabil
ities).Theriskmayalsorelatetosignificantchangesinassumptionsrel
atingtorecurringestimates.Informationgatheredthroughobtaining
anunderstandingoftheentityanditsenvironmentmayassisttheaudi
torinevaluatingthereasonablenessofsuchmanagementestimates
andunderlyingjudgmentsandassumptions.Aretrospectivereviewo
fsimilarmanagementjudgmentsandassumptionsappliedinpriorpe
riodsmayalsoprovideinsightaboutthereasonablenessofjudgments
andassumptionssupportingmanagementestimates.
A40.Examplesofpossibleauditprocedurestoaddresstheassessedrisksof
materialmisstatementduetofraud,includingthosethatillustratethe
incorporationofanelementofunpredictability,arepresentedinAppe
ndix2.Theappendixincludesexamplesofresponsestotheauditorsa
ssessmentoftherisksofmaterialmisstatementresultingfrombothfr
audulentfinancialreporting,includingfraudulentfinancialreporting
resultingfromrevenuerecognition,andmisappropriationofassets.
AuditProceduresResponsivetoRisksRelatedtoManagementOverrideofCo
ntrols
JournalEntriesandOtherAdjustments(Ref:Para.32(a))
A41.Materialmisstatementoffinancialstatementsduetofraudofteninvolvet
hemanipulationofthefinancialreportingprocessbyrecordinginappro
priateorunauthorizedjournalentries.Thismayoccurthroughouttheye
aroratperiodend,orbymanagementmakingadjustmentstoamountsr
eportedinthefinancialstatementsthatarenotreflectedinjournalentri
es,suchasthroughconsolidatingadjustmentsandreclassifications.
A42.Further,theauditorsconsiderationoftherisksofmaterialmisstatement
associatedwithinappropriateoverrideofcontrolsoverjournalentriesis
importantsinceautomatedprocessesandcontrolsmayreducetherisk
ofinadvertenterrorbutdonotovercometheriskthatindividualsmayina
ppropriatelyoverridesuchautomatedprocesses,forexample,bychan
gingtheamountsbeingautomaticallypassedtothegeneralledgerorto
thefinancialreportingsystem.Furthermore,whenITisusedtotransferi
nformationautomatically,theremaybelittleornovisibleevidenceofsu
chinterventionintheinformationsystems.

A43.Whenidentifyingandselectingjournalentriesandotheradjustmentsfo
rtestinganddeterminingtheappropriatemethodofexaminingtheun
derlyingsupportfortheitemsselected,thefollowingmattersareofrel
evance:
Theassessmentoftherisksofmaterialmisstatementduetofraud
thepresenceoffraudriskfactorsandotherinformationobtainedduring
theauditorsassessmentoftherisksofmaterialmisstatementduetofra
udmayassisttheauditortoidentifyspecificclassesofjournalentriesan
dotheradjustmentsfortesting.
Controlsthathavebeenimplementedoverjournalentriesandotheradj
ustments
effectivecontrolsoverthepreparationandpostingofjournalentriesan
dotheradjustmentsmayreducetheextentofsubstantivetestingneces
sary,providedthattheauditorhastestedtheoperatingeffectivenessof
thecontrols.
Theentitysfinancialreportingprocessandthenatureofevidencethat
canbeobtained
formanyentitiesroutineprocessingoftransactionsinvolvesa
combinationofmanualandautomatedstepsandprocedures.Simil
arly,theprocessingofjournalentriesandotheradjustmentsmayin
volvebothmanualandautomatedproceduresandcontrols.Wheni
nformationtechnologyisusedinthefinancialreportingprocess,jou
rnalentriesandotheradjustmentsmayexistonlyinelectronicform.
1

Thecharacteristicsoffraudulentjournalentriesorotheradjustments
inappropriatejournalentriesorotheradjustmentsoftenhaveuniqueid
entifyingcharacteristics.Suchcharacteristicsmayincludeentries(a)
madetounrelated,unusual,orseldomusedaccounts,
(b)madebyindividualswhotypicallydonotmakejournalentries,
(c)recordedattheendoftheperiodoraspostclosingentriesthathavelittleornoexplanationordescription,
(d)madeeitherbeforeorduringthepreparationofthefinancialstateme
ntsthatdonothaveaccountnumbers,or(e)containingroundnumbers
orconsistentendingnumbers.
Thenatureandcomplexityoftheaccounts
inappropriatejournalentriesoradjustmentsmaybeappliedtoaccount
sthat(a)containtransactionsthatarecomplexorunusualinnature,
(b)containsignificantestimatesandperiodendadjustments,
(c)havebeenpronetomisstatementsinthepast,
(d)havenotbeenreconciledonatimelybasisorcontainunreconcileddi
fferences,(e)containintercompanytransactions,or(f)areotherwiseassociatedwithanidentified
riskofmaterialmisstatementduetofraud.Inauditsofentitiesthathave
severallocationsorcomponents,considerationisgiventotheneedtos
electjournalentriesfrommultiplelocations.
Journalentriesorotheradjustmentsprocessedoutsidethenormalcour

seofbusiness
nonstandardjournalentriesmaynotbesubjecttothesamelevelofinter
nalcontrolasthosejournalentriesusedonarecurringbasistorecordtra
nsactionssuchasmonthlysales,purchasesandcashdisbursements.
A44.Theauditorusesprofessionaljudgmentindeterminingthenature,timi
ngandextentoftestingofjournalentriesandotheradjustments.How
ever,becausefraudulentjournalentriesandotheradjustmentsareof
tenmadeattheendofareportingperiod,paragraph32(a)
(ii)requirestheauditortoselectthejournalentriesandotheradjustme
ntsmadeatthattime.Further,becausematerialmisstatementsinfin
ancialstatementsduetofraudcanoccurthroughouttheperiodandm
ayinvolveextensiveeffortstoconcealhowthefraudisaccomplished,
paragraph32(a)
(iii)requirestheauditortoconsiderwhetherthereisalsoaneedtotestj
ournalentriesandotheradjustmentsthroughouttheperiod.
AccountingEstimates(Ref:Para.32(b))
A45.Inpreparingfinancialstatements,managementisresponsibleformaki
nganumberofjudgmentsorassumptionsthataffectsignificantaccou
ntingestimatesandformonitoringthereasonablenessofsuchestima
tesonanongoingbasis.
Fraudulentfinancialreportingisoftenaccomplishedthroughintentio
nalmisstatementofaccountingestimates.Thismaybeachievedby,fo
rexample,understatingoroverstatingallprovisionsorreservesinthes
amefashionsoastobedesignedeithertosmoothearningsovertwoor
moreaccountingperiods,ortoachieveadesignatedearningslevelino
rdertodeceivefinancialstatementusersbyinfluencingtheirpercepti
onsastotheentitysperformanceandprofitability.
A46.Thepurposeofperformingaretrospectivereviewofmanagementjudgm
entsandassumptionsrelatedtosignificantaccountingestimatesrefle
ctedinthefinancialstatementsoftheprioryearistodeterminewhether
thereisanindicationofapossiblebiasonthepartofmanagement.Itisno
tintendedtocallintoquestiontheauditorsprofessionaljudgmentsma
deintheprioryearthatwerebasedoninformationavailableatthetime.
BusinessRationaleforSignificantTransactions
(Ref:Para.32(c))

A47.Indicatorsthatmaysuggestthatsignificanttransactionsthatareoutsi
dethenormalcourseofbusinessfortheentity,orthatotherwiseappe
artobeunusual,mayhavebeenenteredintotoengageinfraudulentfi
nancialreportingortoconcealmisappropriationofassetsinclude:
Theformofsuchtransactionsappearsoverlycomplex(forexample,the
transactioninvolvesmultipleentitieswithinaconsolidatedgroupormu
ltipleunrelatedthirdparties).
Managementhasnotdiscussedthenatureofandaccountingforsuchtr

ansactionswiththosechargedwithgovernanceoftheentity,andtherei
sinadequatedocumentation.
Managementisplacingmoreemphasisontheneedforaparticularacco
untingtreatmentthanontheunderlyingeconomicsofthetransaction.
Transactionsthatinvolvenonconsolidatedrelatedparties,includingspecialpurposeentities,haven
otbeenproperlyreviewedorapprovedbythosechargedwithgovernan
ceoftheentity.
Thetransactionsinvolvepreviouslyunidentifiedrelatedpartiesorparti
esthatdonothavethesubstanceorthefinancialstrengthtosupportthet
ransactionwithoutassistancefromtheentityunderaudit.
EvaluationofAuditEvidence(Ref:Para.3437)
A48.PSA330requirestheauditor,basedontheauditproceduresperformeda
ndtheauditevidenceobtained,toevaluatewhethertheassessmentsof
therisksofmaterialmisstatementattheassertionlevelremainappropr
iate.Thisevaluationisprimarilyaqualitativematterbasedontheaudito
rsjudgment.Suchanevaluationmayprovidefurtherinsightaboutther
isksofmaterialmisstatementduetofraudandwhetherthereisaneedto
performadditionalordifferentauditprocedures.Appendix3containse
xamplesofcircumstancesthatmayindicatethepossibilityoffraud.
AnalyticalProceduresPerformedintheOverallReviewoftheFinancialState
ments(Ref:Para.32)
A49.Determiningwhichparticulartrendsandrelationshipsmayindicateari
skofmaterialmisstatementduetofraudrequiresprofessionaljudgm
ent.Unusualrelationshipsinvolvingyearendrevenueandincomeareparticularlyrelevant.Thesemightinclud
e,forexample:uncharacteristicallylargeamountsofincomebeingre
portedinthelastfewweeksofthereportingperiodorunusualtransacti
ons;orincomethatisinconsistentwithtrendsincashflowfromoperati
ons.
ConsiderationofIdentifiedMisstatements(Ref:Para.3537)
A50.Sincefraudinvolvesincentiveorpressuretocommitfraud,aperceivedo
pportunitytodosoorsomerationalizationoftheact,aninstanceoffrau
disunlikelytobeanisolatedoccurrence.Accordingly,misstatements,
suchasnumerousmisstatementsataspecificlocationeventhoughth
ecumulativeeffectisnotmaterial,maybeindicativeofariskofmaterial
misstatementduetofraud.
A51.Theimplicationsofidentifiedfrauddependonthecircumstances.Forexa
mple,anotherwiseinsignificantfraudmaybesignificantifitinvolvesse
niormanagement.Insuchcircumstances,thereliabilityofevidencepre
viouslyobtainedmaybecalledintoquestion,sincetheremaybedoubts

aboutthecompletenessandtruthfulnessofrepresentationsmadeand
aboutthegenuinenessofaccountingrecordsanddocumentation.Ther
emayalsobeapossibilityofcollusioninvolvingemployees,manageme
ntorthirdparties.
4

A52.PSA450,EvaluationofMisstatementsIdentifiedduringtheAudit,and
PSA700,TheIndependentAuditorsReportonGeneralPurposeFina
ncial
5

Statements,establishrequirementsandprovideguidanceontheeva
luationanddispositionofmisstatementsandtheeffectontheauditor
sopinionintheauditorsreport.

4
CloseoffdocumentapprovedMay2006.
5
CloseoffdocumentapprovedOctober2006.

AuditorUnabletoContinuetheEngagement(Ref:Para.38)
A53.Examplesofexceptionalcircumstancesthatmayariseandthatmayb
ringintoquestiontheauditorsabilitytocontinueperformingtheau
ditinclude:
1

(a)
Theentitydoesnottaketheappropriateactionregardingfraudthatthea
uditorconsidersnecessaryinthecircumstances,evenwhenthefraudis
notmaterialtothefinancialstatements;
(b)
Theauditorsconsiderationoftherisksofmaterialmisstatementdueto
fraudandtheresultsofaudittestsindicateasignificantriskofmateriala
ndpervasivefraud;or
(c)
Theauditorhassignificantconcernaboutthecompetenceorintegrityo
fmanagementorthosechargedwithgovernance.

A54.Becauseofthevarietyofthecircumstancesthatmayarise,itisnotpossibl
etodescribedefinitivelywhenwithdrawalfromanengagementisappro
priate.Factorsthataffecttheauditorsconclusionincludetheimplicatio
nsoftheinvolvementofamemberofmanagementorofthosechargedw

ithgovernance(whichmayaffectthereliabilityofmanagementreprese
ntations)andtheeffectsontheauditorofacontinuingassociationwitht
heentity.
A55.Theauditorhasprofessionalandlegalresponsibilitiesinsuchcircumstan
ces.Forexample,theauditormaybeentitledto,orrequiredto,makeast
atementorreporttothepersonorpersonswhomadetheauditappointm
entor,insomecases,toregulatoryauthorities.Giventheexceptionalna
tureofthecircumstancesandtheneedtoconsiderthelegalrequiremen
ts,theauditormayconsideritappropriatetoseeklegaladvicewhendeci
dingwhethertowithdrawfromanengagementandindetermininganap
propriatecourseofaction,includingthepossibilityofreporting
6

toshareholders,regulatorsorothers.
ConsiderationsSpecifictoPublicSectorEntities
A56.Inmanycasesinthepublicsector,theoptionofwithdrawingfromtheen
gagementmaynotbeavailabletotheauditorduetothenatureofthem
andateorpublicinterestconsiderations.

TheCodeofEthicsforProfessionalAccountantsinthePhilippinesprovidesgui
danceoncommunicationswithaproposedsuccessorauditor.
ManagementRepresentations(Ref:Para.39)

A57.PSA580,ManagementRepresentationestablishesrequirementsand
providesguidanceonobtainingappropriaterepresentationsfromman
agementintheaudit.Inadditiontoacknowledgingitsresponsibilityfort
hefinancialstatements,itisimportantthat,irrespectiveofthesizeofthe
entity,managementacknowledgeitsresponsibilityforinternalcontrol
designed,implementedandmaintainedtopreventanddetectfraud.
A58.Becauseofthenatureoffraudandthedifficultiesencounteredbyauditor
sindetectingmaterialmisstatementsinthefinancialstatementsresul
tingfromfraud,itisimportantthattheauditorobtainawrittenrepresen
tationfrommanagementconfirmingthatithasdisclosedtotheauditor
:
1
2

(a)
Theresultsofmanagementsassessmentoftheriskthatthefinancialst
atementsmaybemateriallymisstatedasaresultoffraud;and
(b)
Itsknowledgeofactual,suspectedorallegedfraudaffectingtheentity.

CommunicationsToManagementandWithThoseChargedWithGovernance
CommunicationToManagement(Ref:Para.40)
A59.Whentheauditorhasobtainedevidencethatfraudexistsormayexist,itis
importantthatthematterbebroughttotheattentionoftheappropriatel
evelofmanagementassoonaspracticable.Thisissoevenifthematter
mightbeconsideredinconsequential(forexample,aminordefalcation
byanemployeeatalowlevelintheentitysorganization).Thedetermin
ationofwhichlevelofmanagementistheappropriateoneisamatterofp
rofessionaljudgmentandisaffectedbysuchfactorsasthelikelihoodofc
ollusionandthenatureandmagnitudeofthesuspectedfraud.Ordinaril
y,theappropriatelevelofmanagementisatleastonelevelabovetheper
sonswhoappeartobeinvolvedwiththesuspectedfraud.
CommunicationWithThoseChargedWithGovernance(Ref:Para.41)
A60.Theauditorscommunicationwiththosechargedwithgovernancemayb
emadeorallyorinwriting.PSA260(Revised)identifiesfactorstheaudit
orconsidersindeterminingwhethertocommunicateorallyorinwriting.
Duetothenatureandsensitivityoffraudinvolvingseniormanagement,
orfraudthatresultsinamaterialmisstatementinthefinancialstatemen
ts,theauditorreportssuchmattersonatimelybasisandmayconsiderit
necessarytoalsoreportsuchmattersinwriting.
A61.Insomecases,theauditormayconsideritappropriatetocommunicatewi
ththosechargedwithgovernancewhentheauditorbecomesawareoffr
audinvolvingemployeesotherthanmanagementthatdoesnotresulti
namaterialmisstatement.Similarly,thosechargedwithgovernancem
aywishtobeinformedofsuchcircumstances.Thecommunicationproc
essisassistediftheauditorandthosechargedwithgovernanceagreeat
anearlystageintheauditaboutthenatureandextentoftheauditorsco
mmunicationsinthisregard.
A62.Intheexceptionalcircumstanceswheretheauditorhasdoubtsaboutthe
integrityorhonestyofmanagementorthosechargedwithgovernance
,theauditormayconsideritappropriatetoobtainlegaladvicetoassisti
ndeterminingtheappropriatecourseofaction.
OtherMattersRelatedtoFraud(Ref:Para.42)
A63.Othermattersrelatedtofraudtobediscussedwiththosechargedwithgo
vernanceoftheentitymayinclude,forexample:
Concernsaboutthenature,extentandfrequencyofmanagementsass
essmentsofthecontrolsinplacetopreventanddetectfraudandoftheri
skthatthefinancialstatementsmaybemisstated.

Afailurebymanagementtoappropriatelyaddressidentifiedmaterialw
eaknessesininternalcontrol,ortoappropriatelyrespondtoanidentifie
dfraud.
Theauditorsevaluationoftheentityscontrolenvironment,includingq
uestionsregardingthecompetenceandintegrityofmanagement.
Actionsbymanagementthatmaybeindicativeoffraudulentfinancialr
eporting,suchasmanagementsselectionandapplicationofaccounti
ngpoliciesthatmaybeindicativeofmanagementsefforttomanageea
rningsinordertodeceivefinancialstatementusersbyinfluencingtheir
perceptionsastotheentitysperformanceandprofitability.
Concernsabouttheadequacyandcompletenessoftheauthorizationof
transactionsthatappeartobeoutsidethenormalcourseofbusiness.
CommunicationstoRegulatoryandEnforcementAuthorities(Ref:Para.43)
A64.Theauditorsprofessionaldutytomaintaintheconfidentialityofclientin
formationmayprecludereportingfraudtoapartyoutsidetheclientent
ity.However,incertaincircumstances,thedutyofconfidentialitymay
beoverriddenbyregulatoryrequirements,statute,thelaworcourtsofl
aw.Forexample,underaBSPrequirement,theauditorofafinancialinsti
tutionhasastatutorydutyto
7

reporttheoccurrenceoffraudtotheBSP.Also,underanSECrequireme
nt,theauditorhasadutytoreportmaterialauditfindings,suchasthose
involvingfraudorerror,inthosecaseswheremanagementandthosec
hargedwithgovernance
8

failtoreportthosefindingstotheSECwithintheprescribedperiod.
A65.Theauditormayconsideritappropriatetoobtainlegaladvicetodeter
minetheappropriatecourseofactioninthecircumstances,thepurp
oseofwhichistoascertainthestepsnecessaryinconsideringthepub
licinterestaspectsofidentifiedfraud.
ConsiderationsSpecifictoPublicSectorEntities
A66.Inthepublicsector,requirementsforreportingfraud,whetherornotdis
coveredthroughtheauditprocess,maybesubjecttospecificprovisio
nsoftheauditmandateorrelatedlegislationorregulation.

Acknowledgment
ThisPSAisbasedonInternationalStandardonAuditing240(Redrafted),The
AuditorsResponsibilitiesRelatingtoFraudinanAuditofFinancialStatements
,issuedbytheInternationalAuditingandAssuranceStandardsBoard.
TherearenosignificantdifferencesbetweenthisPSA240(Redrafted)andI
SA240(Redrafted),exceptfortherewordingofparagraphsA19andA64an

dtheinclusionoffootnotes2,7and8todescribetherelevantPhilippinespecificrequirements.

7
BSPCircularNo.410,Seriesof2003,prescribestherulesandregulationsthatgovernthesel
ection,appointment,reportingrequirementsanddelistingofexternalauditorsofbanksan
dotherfinancialinstitutionssubjecttoBSPsupervision.Partofthereportingrequirementsi
sthecommunicationbytheexternalauditorstotheBSPofmaterialauditfindings,including
mattersrelatingtocorporategovernance.
8
SECMemorandumCircularNo.15,Seriesof2004,containstheaccreditationandreportorial
requirementsforexternalauditorswhoauditthefinancialstatementsofpubliccompaniesa
ndsecondarylicenseesoftheSEC.AnaccreditedexternalauditorisrequiredtoreporttotheS
EC,incaseaclientcompanyfailstomakethedisclosureitselftotheSEC,certainmattersdiscoveredbytheexte
rnalauditorsduringtheconductoftheaudit.

Appendix
1

(Ref:Para.A25
)

ExamplesofFraudRiskFactors
ThefraudriskfactorsidentifiedinthisAppendixareexamplesofsuchfactors
thatmaybefacedbyauditorsinabroadrangeofsituations.Separatelyprese
ntedareexamplesrelatingtothetwotypesoffraudrelevanttotheauditorsc
onsideration
thatis,fraudulentfinancialreportingandmisappropriationofassets.Forea
chofthesetypesoffraud,theriskfactorsarefurtherclassifiedbasedontheth
reeconditionsgenerallypresentwhenmaterialmisstatementsduetofraud
occur:(a)incentives/pressures,
(b)opportunities,and(c)attitudes/rationalizations.Althoughtheriskfactor
scoverabroadrangeofsituations,theyareonlyexamplesand,accordingly,
theauditormayidentifyadditionalordifferentriskfactors.Notalloftheseex
amplesarerelevantinallcircumstances,andsomemaybeofgreaterorlesse
rsignificanceinentitiesofdifferentsizeorwithdifferentownershipcharacte
risticsorcircumstances.Also,theorderoftheexamplesofriskfactorsprovid
edisnotintendedtoreflecttheirrelativeimportanceorfrequencyofoccurre
nce.

RiskFactorsRelatingtoMisstatementsArisingfromFraudulentFinan
cialReporting
Thefollowingareexamplesofriskfactorsrelatingtomisstatementsari
singfromfraudulentfinancialreporting.
Incentives/Pressures
Financialstabilityorprofitabilityisthreatenedbyeconomic,industry,orentit
yoperatingconditions,suchas(orasindicatedby):
Highdegreeofcompetitionormarketsaturation,accompaniedbydecli
ningmargins.
Highvulnerabilitytorapidchanges,suchaschangesintechnology,pro
ductobsolescence,orinterestrates.
Significantdeclinesincustomerdemandandincreasingbusinessfailur
esineithertheindustryoroveralleconomy.
Operatinglossesmakingthethreatofbankruptcy,foreclosure,orhostil
etakeoverimminent.
Recurringnegativecashflowsfromoperationsoraninabilitytogenerat
ecashflowsfromoperationswhilereportingearningsandearningsgro
wth.
Rapidgrowthorunusualprofitabilityespeciallycomparedtothatofoth
ercompaniesinthesameindustry.
Newaccounting,statutory,orregulatoryrequirements.
Excessivepressureexistsformanagementtomeettherequirementsorex
pectationsofthirdpartiesduetothefollowing:
1

2
3
4

Profitabilityortrendlevelexpectationsofinvestmentanalysts,instituti
onalinvestors,significantcreditors,orotherexternalparties(particula
rlyexpectationsthatareundulyaggressiveorunrealistic),includingex
pectationscreatedbymanagementin,forexample,overlyoptimisticpr
essreleasesorannualreportmessages.
Needtoobtainadditionaldebtorequityfinancingtostaycompetitive
includingfinancingofmajorresearchanddevelopmentorcapitalexpen
ditures.
Marginalabilitytomeetexchangelistingrequirementsordebtrepayme
ntorotherdebtcovenantrequirements.
Perceivedorrealadverseeffectsofreportingpoorfinancialresultsonsig
nificantpendingtransactions,suchasbusinesscombinationsorcontra
ctawards.

Informationavailableindicatesthatthepersonalfinancialsituationofmanag
ementorthosechargedwithgovernanceisthreatenedbytheentitysfinancia
lperformancearisingfromthefollowing:
Significantfinancialinterestsintheentity.

Significantportionsoftheircompensation(forexample,bonuses,stock
options,andearnoutarrangements)beingcontingentuponachievingaggressivetarget
s
9

forstockprice,operatingresults,financialposition,orcashflow.
Personalguaranteesofdebtsoftheentity.
Thereisexcessivepressureonmanagementoroperatingpersonneltome
etfinancialtargetsestablishedbythosechargedwithgovernance,includ
ingsalesorprofitabilityincentivegoals.

Managementincentiveplansmaybecontingentuponachievingtargetsrelatingonlytocert
ainaccountsorselectedactivitiesoftheentity,eventhoughtherelatedaccountsoractivitie
smaynotbematerialtotheentityasawhole.

Opportunities
Thenatureoftheindustryortheentitysoperationsprovidesopportunitiesto
engageinfraudulentfinancialreportingthatcanarisefromthefollowing:
Significantrelatedpartytransactionsnotintheordinarycourseofbusinessorwithrelatede
ntitiesnotauditedorauditedbyanotherfirm.
Astrongfinancialpresenceorabilitytodominateacertainindustrysect
orthatallowstheentitytodictatetermsorconditionstosuppliersorcust
omersthatmayresultininappropriateornonarmslengthtransactions.
Assets,liabilities,revenues,orexpensesbasedonsignificantestimate
sthatinvolvesubjectivejudgmentsoruncertaintiesthataredifficulttoc
orroborate.
Significant,unusual,orhighlycomplextransactions,especiallythosecl
osetoperiodendthatposedifficultsubstanceoverformquestions.
Significantoperationslocatedorconductedacrossinternationalborde
rsinjurisdictionswheredifferingbusinessenvironmentsandculturese
xist.
Useofbusinessintermediariesforwhichthereappearstobenoclearbus
inessjustification.
Significantbankaccountsorsubsidiaryorbranchoperationsintaxhavenjurisdictionsforwhichthereappearstobenoclearbusinessjustifi
cation.
Themonitoringofmanagementisnoteffectiveasaresultofthefollowing:
Dominationofmanagementbyasinglepersonorsmallgroup(inanono

wnermanagedbusiness)withoutcompensatingcontrols.
Oversightbythosechargedwithgovernanceoverthefinancialreportin
gprocessandinternalcontrolisnoteffective.
Thereisacomplexorunstableorganizationalstructure,asevidencedbythefol
lowing:
1
2
3

Difficultyindeterminingtheorganizationorindividualsthathavecontr
ollinginterestintheentity.
Overlycomplexorganizationalstructureinvolvingunusuallegalentitie
sormanageriallinesofauthority.
Highturnoverofseniormanagement,legalcounsel,orthosechargedwi
thgovernance.

Internalcontrolcomponentsaredeficientasaresultofthefollowing:
1
2
3

Inadequatemonitoringofcontrols,includingautomatedcontrolsandc
ontrolsoverinterimfinancialreporting(whereexternalreportingisreq
uired).
Highturnoverratesoremploymentofaccounting,internalaudit,orinfor
mationtechnologystaffthatarenoteffective.
Accountingandinformationsystemsthatarenoteffective,includingsit
uationsinvolvingmaterialweaknessesininternalcontrol.

Attitudes/Rationalizations
Communication,implementation,support,orenforcementoftheentit
ysvaluesorethicalstandardsbymanagement,orthecommunication
ofinappropriatevaluesorethicalstandards,thatarenoteffective.
2 Nonfinancialmanagementsexcessiveparticipationinorpreoccupati
onwiththeselectionofaccountingpoliciesorthedeterminationofsigni
ficantestimates.
3 Knownhistoryofviolationsofsecuritieslawsorotherlawsandregulatio
ns,orclaimsagainsttheentity,itsseniormanagement,orthosecharge
dwithgovernanceallegingfraudorviolationsoflawsandregulations.
4 Excessiveinterestbymanagementinmaintainingorincreasingtheent
itysstockpriceorearningstrend.
5 Thepracticebymanagementofcommittingtoanalysts,creditors,ando
therthirdpartiestoachieveaggressiveorunrealisticforecasts.
6 Managementfailingtocorrectknownmaterialweaknessesininternalc
ontrolonatimelybasis.
7 Aninterestbymanagementinemployinginappropriatemeanstomini
mizereportedearningsfortaxmotivatedreasons.
8 Lowmoraleamongseniormanagement.
9 Theownermanagermakesnodistinctionbetweenpersonalandbusinesstransact
ions.
10 Disputebetweenshareholdersinacloselyheldentity.
1

11 Recurringattemptsbymanagementtojustifymarginalorinappropriat
eaccountingonthebasisofmateriality.
1.
Therelationshipbetweenmanagementandthecurrentorpredeces
sorauditorisstrained,asexhibitedbythefollowing:
1. oFrequentdisputeswiththecurrentorpredecessorauditoronac
counting,auditing,orreportingmatters.
2. oUnreasonabledemandsontheauditor,suchasunrealistictime
constraintsregardingthecompletionoftheauditortheissuance
oftheauditorsreport.
3. oRestrictionsontheauditorthatinappropriatelylimitaccesstop
eopleorinformationortheabilitytocommunicateeffectivelywit
hthosechargedwithgovernance.
4. oDomineeringmanagementbehaviorindealingwiththeauditor
,especiallyinvolvingattemptstoinfluencethescopeoftheaudit
orsworkortheselectionorcontinuanceofpersonnelassignedto
orconsultedontheauditengagement.
RiskFactorsArisingFromMisstatementsArisingFromMisappropriationofAss
ets
Riskfactorsthatrelatetomisstatementsarisingfrommisappropriationofass
etsarealsoclassifiedaccordingtothethreeconditionsgenerallypresentwhe
nfraudexists:incentives/pressures,opportunities,andattitudes/rationaliz
ation.Someoftheriskfactorsrelatedtomisstatementsarisingfromfraudule
ntfinancialreportingalsomaybepresentwhenmisstatementsarisingfromm
isappropriationofassetsoccur.Forexample,monitoringofmanagementand
weaknessesininternalcontrolthatisnoteffectivemaybepresentwhenmisst
atementsduetoeitherfraudulentfinancialreportingormisappropriationofa
ssetsexist.Thefollowingareexamplesofriskfactorsrelatedtomisstatement
sarisingfrommisappropriationofassets.
Incentives/Pressures
Personalfinancialobligationsmaycreatepressureonmanagementorem
ployeeswithaccesstocashorotherassetssusceptibletothefttomisappro
priatethoseassets.
Adverserelationshipsbetweentheentityandemployeeswithaccesstocash
orotherassetssusceptibletotheftmaymotivatethoseemployeestomisapp
ropriatethoseassets.Forexample,adverserelationshipsmaybecreatedbyt
hefollowing:
1
2
3

Knownoranticipatedfutureemployeelayoffs.
Recentoranticipatedchangestoemployeecompensationorbenefitpl
ans.
Promotions,compensation,orotherrewardsinconsistentwithexpecta
tions.

Opportunities
Certaincharacteristicsorcircumstancesmayincreasethesusceptibilityo
fassetstomisappropriation.Forexample,opportunitiestomisappropriat
eassetsincreasewhentherearethefollowing:
Largeamountsofcashonhandorprocessed.
Inventoryitemsthataresmallinsize,ofhighvalue,orinhighdemand.
Easilyconvertibleassets,suchasbearerbonds,diamonds,orcomputer
chips.
Fixedassetswhicharesmallinsize,marketable,orlackingobservableid
entificationofownership.
Inadequateinternalcontroloverassetsmayincreasethesusceptibilityof
misappropriationofthoseassets.Forexample,misappropriationofasset
smayoccurbecausethereisthefollowing:
Inadequatesegregationofdutiesorindependentchecks.
Inadequateoversightofseniormanagementexpenditures,suchastra
velandotherreimbursements.
Inadequatemanagementoversightofemployeesresponsibleforasse
ts,forexample,inadequatesupervisionormonitoringofremotelocatio
ns.
Inadequatejobapplicantscreeningofemployeeswithaccesstoassets.
Inadequaterecordkeepingwithrespecttoassets.
Inadequatesystemofauthorizationandapprovaloftransactions(forex
ample,inpurchasing).
Inadequatephysicalsafeguardsovercash,investments,inventory,or
fixedassets.
Lackofcompleteandtimelyreconciliationsofassets.
Lackoftimelyandappropriatedocumentationoftransactions,forexam
ple,creditsformerchandisereturns.
Lackofmandatoryvacationsforemployeesperformingkeycontrolfunc
tions.
Inadequatemanagementunderstandingofinformationtechnology,w
hichenablesinformationtechnologyemployeestoperpetrateamisap
propriation.
Inadequateaccesscontrolsoverautomatedrecords,includingcontrol
soverandreviewofcomputersystemseventlogs.
Attitudes/Rationalizations
Disregardfortheneedformonitoringorreducingrisksrelatedtomisapp
ropriationsofassets.
Disregardforinternalcontrolovermisappropriationofassetsbyoverrid
ingexistingcontrolsorbyfailingtocorrectknowninternalcontroldeficie
ncies.
Behaviorindicatingdispleasureordissatisfactionwiththeentityoritstr

eatmentoftheemployee.
Changesinbehaviororlifestylethatmayindicateassetshavebeenmis
appropriated.
Toleranceofpettytheft.

Appendix
2
(Ref:Para.A40
)

ExamplesofPossibleAuditProcedurestoAddresstheAssessedRis
ksofMaterialMisstatementDuetoFraud
Thefollowingareexamplesofpossibleauditprocedurestoaddresstheassess
edrisksofmaterialmisstatementduetofraudresultingfrombothfraudulentfi
nancialreportingandmisappropriationofassets.Althoughtheseprocedures
coverabroadrangeofsituations,theyareonlyexamplesand,accordinglythe
ymaynotbethemostappropriatenornecessaryineachcircumstance.Alsoth
eorderoftheproceduresprovidedisnotintendedtoreflecttheirrelativeimpor
tance.
ConsiderationattheAssertionLevel
Specificresponsestotheauditorsassessmentoftherisksofmaterialmisstat
ementduetofraudwillvarydependinguponthetypesorcombinationsoffraud
riskfactorsorconditionsidentified,andtheclassesoftransactions,accountba
lances,disclosuresandassertionstheymayaffect.
Thefollowingarespecificexamplesofresponses:
Visitinglocationsorperformingcertaintestsonasurpriseorunannounc
edbasis.Forexample,observinginventoryatlocationswhereauditorat
tendancehasnotbeenpreviouslyannouncedorcountingcashataparti
culardateonasurprisebasis.
Requestingthatinventoriesbecountedattheendofthereportingperio
doronadateclosertoperiodendtominimizetheriskofmanipulationofb
alancesintheperiodbetweenthedateofcompletionofthecountandth
eendofthereportingperiod.
Alteringtheauditapproachinthecurrentyear.Forexample,contacting
majorcustomersandsuppliersorallyinadditiontosendingwrittenconfi
rmation,sendingconfirmationrequeststoaspecificpartywithinanorg
anization,orseekingmoreordifferentinformation.Performingadetaile
dreviewoftheentitysquarterendoryearendadjustingentriesandinvestigatinganythatappearunusualastona
tureoramount.
Forsignificantandunusualtransactions,particularlythoseoccurringat
ornearyearend,investigatingthepossibilityofrelatedpartiesandthesourcesoffin

ancialresourcessupportingthetransactions.
Performingsubstantiveanalyticalproceduresusingdisaggregatedda
ta.Forexample,comparingsalesandcostofsalesbylocation,lineofbusi
nessormonthtoexpectationsdevelopedbytheauditor.
Conductinginterviewsofpersonnelinvolvedinareaswhereariskofmat
erialmisstatementduetofraudhasbeenidentified,toobtaintheirinsig
htsabouttheriskandwhether,orhow,controlsaddresstherisk.
Whenotherindependentauditorsareauditingthefinancialstatements
ofoneormoresubsidiaries,divisionsorbranches,discussingwiththem
theextentofworknecessarytobeperformedtoaddresstheassessedris
kofmaterialmisstatementduetofraudresultingfromtransactionsand
activitiesamongthesecomponents.
Iftheworkofanexpertbecomesparticularlysignificantwithrespecttoa
financialstatementitemforwhichtheassessedriskofmisstatementdu
etofraudishigh,performingadditionalproceduresrelatingtosomeoral
loftheexpertsassumptions,methodsorfindingstodeterminethatthe
findingsarenotunreasonable,orengaginganotherexpertforthatpurp
ose.
Performingauditprocedurestoanalyzeselectedopeningbalanceshee
taccountsofpreviouslyauditedfinancialstatementstoassesshowcert
ainissuesinvolvingaccountingestimatesandjudgments,forexample,
anallowanceforsalesreturns,wereresolvedwiththebenefitofhindsig
ht.
Performingproceduresonaccountorotherreconciliationspreparedby
theentity,includingconsideringreconciliationsperformedatinterimp
eriods.
Performingcomputerassistedtechniques,suchasdataminingtotestforanomaliesinapopul
ation.
Testingtheintegrityofcomputerproducedrecordsandtransactions.
Seekingadditionalauditevidencefromsourcesoutsideoftheentitybei
ngaudited.
SpecificResponses
MisstatementResultingfromFraudulentFinancialReporting
Examplesofresponsestotheauditorsassessmentoftherisksofmaterialmi
sstatementduetofraudulentfinancialreportingareasfollows:
RevenueRecognition
Performingsubstantiveanalyticalproceduresrelatingtorevenueusin
gdisaggregateddata,forexample,comparingrevenuereportedbymo
nthandbyproductlineorbusinesssegmentduringthecurrentreportin
gperiodwithcomparablepriorperiods.Computerassistedaudittechniquesmaybeusefulinidentifyingunusualorunexp
ectedrevenuerelationshipsortransactions.
Confirmingwithcustomerscertainrelevantcontracttermsandtheabs

enceofsideagreements,becausetheappropriateaccountingoftenisin
fluencedbysuchtermsoragreementsandbasisforrebatesortheperiod
towhichtheyrelateareoftenpoorlydocumented.Forexample,accepta
ncecriteria,deliveryandpaymentterms,theabsenceoffutureorcontin
uingvendorobligations,therighttoreturntheproduct,guaranteedres
aleamounts,andcancellationorrefundprovisionsoftenarerelevantins
uchcircumstances.
Inquiringoftheentityssalesandmarketingpersonnelorinhouselegalcounselregardingsalesorshipmentsneartheendoftheperi
odandtheirknowledgeofanyunusualtermsorconditionsassociatedwi
ththesetransactions.
Beingphysicallypresentatoneormorelocationsatperiodendtoobserv
egoodsbeingshippedorbeingreadiedforshipment(orreturnsawaitin
gprocessing)andperformingotherappropriatesalesandinventorycut
offprocedures.
Forthosesituationsforwhichrevenuetransactionsareelectronicallyini
tiated,processed,andrecorded,testingcontrolstodeterminewhether
theyprovideassurancethatrecordedrevenuetransactionsoccurreda
ndareproperlyrecorded.
InventoryQuantities
Examiningtheentity'sinventoryrecordstoidentifylocationsoritemsth
atrequirespecificattentionduringorafterthephysicalinventorycount.
Observinginventorycountsatcertainlocationsonanunannouncedba
sisorconductinginventorycountsatalllocationsonthesamedate.
Conductinginventorycountsatorneartheendofthereportingperiodto
minimizetheriskofinappropriatemanipulationduringtheperiodbetw
eenthecountandtheendofthereportingperiod.
Performingadditionalproceduresduringtheobservationofthecount,f
orexample,morerigorouslyexaminingthecontentsofboxeditems,the
mannerinwhichthegoodsarestacked(forexample,hollowsquares)orl
abeled,andthequality(thatis,purity,grade,orconcentration)ofliquids
ubstancessuchasperfumesorspecialtychemicals.Usingtheworkofan
expertmaybehelpfulinthisregard.
Comparingthequantitiesforthecurrentperiodwithpriorperiodsbycla
ssorcategoryofinventory,locationorothercriteria,orcomparisonofqu
antitiescountedwithperpetualrecords.
Usingcomputerassistedaudittechniquestofurthertestthecompilationofthephysicali
nventorycounts
forexample,sortingbytagnumbertotesttagcontrolsorbyitemserialn
umbertotestthepossibilityofitemomissionorduplication.
ManagementEstimates
Usinganexperttodevelopanindependentestimateforcomparisonto
managementsestimate.

Extendinginquiriestoindividualsoutsideofmanagementandtheacco
untingdepartmenttocorroboratemanagementsabilityandintenttoc
arryoutplansthatarerelevanttodevelopingtheestimate.
SpecificResponsesMisstatementsDuetoMisappropriationofAssets
Differingcircumstanceswouldnecessarilydictatedifferentresponses.Ordin
arily,theauditresponsetoanassessedriskofmaterialmisstatementduetofra
udrelatingtomisappropriationofassetswillbedirectedtowardcertainaccou
ntbalancesandclassesoftransactions.Althoughsomeoftheauditresponses
notedinthetwocategoriesabovemayapplyinsuchcircumstances,thescope
oftheworkistobelinkedtothespecificinformationaboutthemisappropriatio
nriskthathasbeenidentified.
Examplesofresponsestotheauditorsassessmentoftheriskofmaterialmis
statementsduetomisappropriationofassetsareasfollows:
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15

Countingcashorsecuritiesatornearyearend.
Confirmingdirectlywithcustomerstheaccountactivity(includingcred
itmemoandsalesreturnactivityaswellasdatespaymentsweremade)f
ortheperiodunderaudit.
Analyzingrecoveriesofwrittenoffaccounts.
Analyzinginventoryshortagesbylocationorproducttype.
Comparingkeyinventoryratiostoindustrynorm.
Reviewingsupportingdocumentationforreductionstotheperpetualin
ventoryrecords.
Performingacomputerizedmatchofthevendorlistwithalistofemploye
estoidentifymatchesofaddressesorphonenumbers.
Performingacomputerizedsearchofpayrollrecordstoidentifyduplicat
eaddresses,employeeidentificationortaxingauthoritynumbersorba
nkaccounts
Reviewingpersonnelfilesforthosethatcontainlittleornoevidenceofac
tivity,forexample,lackofperformanceevaluations.
Analyzingsalesdiscountsandreturnsforunusualpatternsortrends.
Confirmingspecifictermsofcontractswiththirdparties.
Obtainingevidencethatcontractsarebeingcarriedoutinaccordancew
iththeirterms.
Reviewingtheproprietyoflargeandunusualexpenses.
Reviewingtheauthorizationandcarryingvalueofseniormanagement
andrelatedpartyloans.
Reviewingthelevelandproprietyofexpensereportssubmittedbyseni
ormanagement.

Appendix
3
(Ref:Para.A48
)

ExamplesofCircumstancesthatIndicatethePossibilityofFraud
Thefollowingareexamplesofcircumstancesthatmayindicatethepossibil
itythatthefinancialstatementsmaycontainamaterialmisstatementresu
ltingfromfraud.
Discrepanciesintheaccountingrecords,including:
1
2
3
4

Transactionsthatarenotrecordedinacompleteortimelymannerorarei
mproperlyrecordedastoamount,accountingperiod,classification,or
entitypolicy.
Unsupportedorunauthorizedbalancesortransactions.
Lastminuteadjustmentsthatsignificantlyaffectfinancialresults.
Evidenceofemployeesaccesstosystemsandrecordsinconsistentwit
hthatnecessarytoperformtheirauthorizedduties.

Tipsorcomplaintstotheauditoraboutallegedfraud.
Conflictingormissingevidence,including:
Missingdocuments.
Documentsthatappeartohavebeenaltered.
Unavailabilityofotherthanphotocopiedorelectronicallytransmittedd
ocumentswhendocumentsinoriginalformareexpectedtoexist.
Significantunexplaineditemsonreconciliations.
Unusualbalancesheetchanges,orchangesintrendsorimportantfinan
cialstatementratiosorrelationships
forexamplereceivablesgrowingfasterthanrevenues.
Inconsistent,vague,orimplausibleresponsesfrommanagementorem
ployeesarisingfrominquiriesoranalyticalprocedures.
Unusualdiscrepanciesbetweentheentity'srecordsandconfirmationr
eplies.
Largenumbersofcreditentriesandotheradjustmentsmadetoaccount
sreceivablerecords.
Unexplainedorinadequatelyexplaineddifferencesbetweentheaccou
ntsreceivablesubledgerandthecontrolaccount,orbetweenthecustomerstatementsan
dtheaccountsreceivablesubledger.
Missingornonexistentcancelledchecksincircumstanceswherecancelledchecksar
eordinarilyreturnedtotheentitywiththebankstatement.
Missinginventoryorphysicalassetsofsignificantmagnitude.
Unavailableormissingelectronicevidence,inconsistentwiththeentity
srecordretentionpracticesorpolicies.
Fewerresponsestoconfirmationsthananticipatedoragreaternumber
ofresponsesthananticipated.

Inabilitytoproduceevidenceofkeysystemsdevelopmentandprogram
changetestingandimplementationactivitiesforcurrentyearsystemchangesanddeployments.
Problematicorunusualrelationshipsbetweentheauditorandmanagement,i
ncluding:
1
2
3

4
5
6
7
8

Denialofaccesstorecords,facilities,certainemployees,customers,ve
ndors,orothersfromwhomauditevidencemightbesought.
Unduetimepressuresimposedbymanagementtoresolvecomplexorc
ontentiousissues.
Complaintsbymanagementabouttheconductoftheauditormanage
mentintimidationofengagementteammembers,particularlyinconne
ctionwiththeauditorscriticalassessmentofauditevidenceorintheres
olutionofpotentialdisagreementswithmanagement.
Unusualdelaysbytheentityinprovidingrequestedinformation.
Unwillingnesstofacilitateauditoraccesstokeyelectronicfilesfortestin
gthroughtheuseofcomputerassistedaudittechniques.
DenialofaccesstokeyIToperationsstaffandfacilities,includingsecurit
y,operations,andsystemsdevelopmentpersonnel.
Anunwillingnesstoaddorrevisedisclosuresinthefinancialstatements
tomakethemmorecompleteandunderstandable.
Anunwillingnesstoaddressidentifiedweaknessesininternalcontrolon
atimelybasis.

Other
Unwillingnessbymanagementtopermittheauditortomeetprivatelyw
iththosechargedwithgovernance.
Accountingpoliciesthatappeartobeatvariancewithindustrynorms.
Frequentchangesinaccountingestimatesthatdonotappeartoresultfr
omchangedcircumstances.
ToleranceofviolationsoftheentitysCodeofConduct.
ThisPSA240(Redrafted),TheAuditorsResponsibilitiesRelatingtoFraudina
nAuditofFinancialStatements,wasunanimouslyapprovedforadoptiononJa
nuary29,2007bythemembersoftheAuditingandAssuranceStandardsCoun
cil.

BenjaminR.Punongbayan,Chairman

FelicidadA.Abad

AntonioP.Acyatan

ErwinVincentG.Alcala

DavidL.Balangue

FroilanG.Ampil

Ma.GraciaCasalsDiaz

AmorsoniaB.Escarda

ManuelO.Faustino

EliseoA.Fernandez

NestorioC.Roraldo

JoaquinP.Tolentino

EdithaO.Tuason

JaimeE.Ysmael