Describe the limitations of external audits

An external audit has a number of limitations which reduce its usefulness:

Sampling – it is not practical for an auditor to test 100% of transactions and so they have to apply sampling methodologies in selecting balances/transactions to test. Therefore, there could be an error in an item not selected for testing by the auditor.

Subjectivity – financial statements include judgemental and subjective areas and therefore the auditor is required to use their judgement in assessing whether the financial statements are true and fair.

Inherent limitations of internal control systems – an internal control system is operated by people and hence is liable to human error. In addition, there is the possibility of controls override by management and of collusion and fraud. It is impossible to remove all of these inherent limitations and as the auditor relies on the internal control systems, this can reduce the usefulness of the audit.

Evidence is persuasive not conclusive – the opinion is based on audit evidence gathered; however, while this evidence can indicate possible issues affecting the audit opinion, evidence involves estimates and judgements and hence does not give a definite conclusion.

Audit report format – the format of the opinion is determined by International Standards on Auditing (UK and Ireland). However, the terminology used is not usually understood by non-accountants. This means that users may not actually understand the audit opinion given.

Historic information – the audit report is often issued some time after the year end, and so the financial information can be quite different to the current position. In the current marketplace where companies’ financial positions can change quite quickly, the audit opinion may no longer be relevant as it is out of date

Another source:

External audits and review engagements are examples of assurance engagements. An external audit provides only reasonable assurance because of the inherent limitations of the audit, such as the fact that not all the transactions in the accounts can be tested and that judgement is required in the audit of provisions. Review engagements only provide negative assurance. This means that nothing has come to the attention of the auditor which indicates that the accounts have not been prepared according to the applicable framework.

Limitations of the external audit:

 Not all items in the financial statements are tested.

 Judgement is required.

 There are limitations in the accounting and control systems.

 The audit report is often issued a while after the statement of financial position date.