ACCA Advanced Audit and Assurance (AAA) Practice Exam

What is the primary purpose of setting performance materiality by an auditor?

1. To match the materiality level for specific classes of transactions

2. To detect all potential misstatements in financial statements

3. To reduce the likelihood of undetected misstatements exceeding overall materiality

4. To ensure compliance with regulatory reporting requirements

The correct answer is: To reduce the likelihood of undetected misstatements exceeding overall materiality

The primary purpose of setting performance materiality by an auditor is to reduce the likelihood of undetected misstatements exceeding overall materiality. Performance materiality is established as a threshold lower than overall materiality and is intended to ensure that the aggregate of uncorrected and undetected misstatements does not exceed the overall materiality level. This approach provides a more focused framework for the auditor's testing and helps the auditor to design procedures that are responsive to the risk of material misstatement in the financial statements. By using performance materiality, auditors acknowledge that there might be some level of misstatement that goes undetected during the audit process. Therefore, setting a lower threshold enables the auditor to conduct sufficient testing to minimize the risk that these undetected misstatements collectively exceed materiality for the financial statements as a whole. This reflects an effective risk management strategy in the auditing process, where the aim is to achieve a reasonable assurance that the financial statements are free from material misstatement. In contrast, matching materiality levels for specific classes of transactions does not capture the comprehensive risk assessment that performance materiality embodies. Detecting all potential misstatements is impractical, given the inherent limitations of audits, while ensuring compliance with regulatory reporting requirements, although important, serves