The Relationship Between Materiality Thresholds and Judgments of Fraud Risk

Abstract

Researchers and practitioners have long debated the arguments in favor of and against providing specific mathematical materiality guidelines in auditing standards. Yet, there is little empirical evidence about the relationship between materiality thresholds and audit risk judgments in the absence of such guidelines. In this study, 152 Big Six managers evaluated materiality and risk for an audit simulation based on an actual case where material fraud was undetected. The auditor subjects were allowed to choose the evidence they would examine before reaching a decision. The major findings of the study are that while auditor materiality judgments differ, these differences were not statistically significantly related to either fraud risk judgments or the amount of evidence the auditors chose to examine before rendering their judgments. This empirical evidence does not support the need for specific quantitative guidance in accounting standards related to materiality. However, other considerations (such as concern for legal liability) could also have an impact on the advisability of providing specific quantitative guidance for setting materiality thresholds.

Citation

Bernardi, R.A. and Pincus, K.V. (1996), "The Relationship Between Materiality Thresholds and Judgments of Fraud Risk", Managerial Finance, Vol. 22 No. 9, pp. 1-15. https://doi.org/10.1108/eb018578