🔹 Meaning:
The Audit Risk Model helps auditors determine how much assurance they need and how much testing to perform.
It expresses the relationship between the different types of risks involved in an audit.
🧮 Formula:
AR = IR × CR × DR
Where:
• AR (Audit Risk): The risk that auditors express an incorrect opinion on financial statements that are materially misstated.
• IR (Inherent Risk): The risk of a misstatement before considering internal controls — due to the nature of business or complexity of transactions.
• CR (Control Risk): The risk that internal controls fail to prevent or detect a misstatement.
• DR (Detection Risk): The risk that the auditor’s own procedures fail to detect a misstatement.
🔹 Example:
If a company deals with complex financial instruments (high IR) and weak internal controls (high CR), auditors must reduce DR by performing more substantive testing to keep AR at an acceptable level.
🧠In short:
Audit Risk = Inherent × Control × Detection
Higher client risk → Deeper audit testing required.
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