Risk-Based Auditing: a proactive approach to risk management

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BERNARD BEMPONG

Risk-based auditing is a proactive and strategic approach that prioritizes audits based on the potential impact of risks on an organization’s operations. Risk-based auditing aims at improving the efficiency and effectiveness of the audit process by focusing on the areas of highest risk. A risk-based audit usually begins with an evaluation of risks which are top priority of management and attempts to correct and redefine the controls based on the urgency and the possibility of a loss resulting from those risks.

Key Principles of Risk-Based Auditing

Risk-Based Auditing operates on a set of fundamental principles. It involves a structured process of risk identification or assessment, materiality as well as an organization’s operational risk exposure or profile.

Risk Assessment

The foundation of risk-based auditing lies in a comprehensive risk assessment. This involves identifying, analyzing and evaluating potential risks that could affect the organization. Risks are categorized based on their likelihood and potential impacts. This allows auditors to prioritize and focus on high-risk areas.

Materiality

Auditors assess the extent and possible influence of risks on the overall business operations. They can then decide how much testing is required and what level of assurance is reasonable.

Customization

Risk-based auditing tailors its approach to the unique risk profile of each organization. This is because there is no one-size-fits-all audit plan for all organizations. A customization ensures that resources are allocated where they are most needed while optimizing the effectiveness of the audit function.

Executing a Risk-Based Auditing

Implementing a risk-based audit requires a systematic approach. By following these steps, organizations can seamlessly integrate risk-based internal auditing approaches into their audit processes, fostering a culture of risk awareness and proactive management essential for effective risk control or mitigation.

Establish Risk Criteria

The purpose of this preliminary stage is to determine the degree of risk and sufficiency of controls in the various functional units of an organization. The risk-based audit demands an understanding of the goals and strategies of the company. A deep knowledge about the business provides a clear understanding of risk incidents and a roadmap to evaluate the possibility of their occurrence, impacts on the organization and the measures to minimize the risks.

To identify the areas of highest risk requires an evaluation of the company’s profile, management structure or organizational changes as well as specific management and audit committee issues. An organization’s ability to prioritize and identify risks relevant to organizational objectives also help to allocate a sufficient amount of resources to mitigate them.

Develop a Risk-Based Audit Plan

A business organization must formulate a detailed risk-based audit plan which aligns with its risk priorities. In the same vein, an audit plan for a projected period must be based on the preliminary risk assessment that sets the auditable business processes inside a risk matrix.

Execution and Monitoring of Audit Plan

This is where an organization carries out its risk-based audit exercise per the plan and continuously monitor the risk landscape. A standard audit program, which establishes audit procedures based on the level of risk assessment, must guide the process. During audit fieldwork and prior to the exit meeting, any potential audit concerns should be thoroughly reviewed with operational employees and line management.

Report and Communication

Report findings, adapt strategies based on feedback, and continuously improve. When the draft is complete, the report should include findings and suggestions that are classified as high, moderate, or low risk. At this point, there should not be any disputes about the report because everyone should have agreed on them throughout the fieldwork and risk assessment phases.

A final report should provide details with regard to the findings and recommendations including Management Action Plan (MAP). It is important to ensure that stakeholders apprise themselves with the report to enable them resolve pertinent issues within a stipulated time.

How a Modern Technology can help

A modern technological application is helping to streamline business and audit processes. When an organization automates its audit lifecycle with risk-based audit management software, it can help to systematically define and assess specific risks and controls. For instance, business or government entities especially in Africa with large volumes of account transactions have to deal with recurrent account reconciliation bottlenecks.

In light of risk-based auditing, ReckSoft® reconciliation software was developed to resolve risks associated with preparing periodic financial reports. It is designed to handle large volume of transactions at a go with speed and accuracy. The Recksoft® software ticks the box in terms of its security, integrity, accuracy, reliability and precision of results.

Benefits of Risk-Based Auditing

Risk-based audits are invaluable at a time of uncertainty, as they allow businesses to adapt more easily to changing conditions through a consistent and comprehensive approach to risk management. The risk-based audit methodology also forces organizations to look beyond the present and envisage other emerging risks. Risk-based auditing brings forth a number of benefits to an organization with a better risk culture. Those benefits include:

Resource Optimization: Risk-based auditing enables organizations to be proactive in their risk management approach. A proactive stance allows for the identification and mitigation of risks before they escalate and thereby safeguard an organization’s reputation and financial stability. Indeed, a proactive efforts lead to conscious and efficient allocation of resources to higher risks incidents and maximize the impact of risk mitigation efforts. By extension, businesses can navigate the unpredictable nature of risks with limited resources to a far more targeted area because their audit plan considers the severity of risks of which senior management requires assurance.

Strategic Decision Support: Risk-based audit provides an opportunity for data-driven decisions. Thus, by aligning audit activities with a strategic business objective, risk-based auditing provides valuable insights that go beyond compliance with regulations and industry standards. The information gathered through audits becomes a strategic asset for decision-makers with a deeper understanding of the embedded risks and opportunities in their operations. As a result, an organization can show resilience in the face of uncertainty in a dynamic business environment. It also helps to promote a culture of continuous improvement within an organization.

Improves Stakeholder Confidence: Stakeholders include employees, investors, customers and regulatory bodies who have a stake in an organization’s risk management practices. Risk-based auditing instills confidence in stakeholders that the organization is diligently addressing potential challenges with a transparent and proactive approach.

Conclusion

An audit must be based on the risk assessment of a business’s operations or processes. An audit based on risk assessment provides a criterion for defining audit priorities and specific needs. This invariably optimizes resource allocation and enables audit teams to dedicate more time and focus on areas that pose significant material risks. Indeed, risk-based auditing facilitates a proactive identification of risks, ensuring that auditors are always focused on the most relevant and current threats to the organization. Risk-based audit is a more efficient and effective way of determining the appropriate level of assurance and quality. A holistic risk-based auditing is more impactful than just relying only on predetermined checklist or uniform procedures.

BERNARD BEMPONG 

Bernard is a Chartered Accountant with over 14 years of professional and industry experience in Financial Services Sector and Management Consultancy. He is the Managing Director of J.S Morlu (Ghana), an international consulting firm providing Accounting, Tax, Auditing, IT Solutions and Business Advisory Services to businesses, government and not for profits. 

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