Materiality brawn vs brain

Published: 03/21/2022

Whether you are undertaking a review or an audit engagement, materiality is the backbone that provides structure to the engagement. Without it, the engagement would be a blobby mess. Determining materiality for an engagement requires professional judgement and a consideration of both quantitative and qualitative factors. Materiality is the threshold above which misstatements in the financial statements could reasonably be considered to influence a user’s decisions. In determining the “appropriate” materiality, one would need to employ both brawn and brains. However, there are times where the pendulum swings too far in one direction.


Both CSRE 2400 and CAS 320 state, “a percentage is often applied to a chosen benchmark as a starting point in determining materiality for the financial statements as a whole”. While it is a fairly short sentence, there are several keywords to note here: “often”; “chosen benchmark”; “starting point”; and “financial statements as a whole”. “Often” is meant to note that this is not always the case. “Chosen benchmark” refers to some brain power that has been exerted to determine the best benchmark to apply. “Starting point” notes that this is only the beginning of the materiality consideration and that there is much to follow. “Financial statements as a whole” indicates that this first step in determining materiality is at the financial statement level. Given all these keywords, it is clear that determining materiality is key to the engagement. Therefore, this determination should not just be a brute force calculation (multiplying the benchmark by a percentage). Materiality needs to remain top of mind during the engagement and it should be reevaluated throughout the engagement as circumstances may change during the engagement. In addition, in some situations practitioners may need to set a specific level of materiality for individual accounts. When determining materiality, apply professional judgement, as well as consider and document all available and relevant factors in the process.


Besides the mechanical calculation of materiality, qualitative factors also need to be considered, including disclosure requirements. The Professional Engagement Guide (PEG) forms start with identifying the users of the financial statements and factors that would influence their decision-making, then they continue with the following qualitative factors as examples: profitability trends; regulations; particular sensitivities; compliance with covenants; users’ expectations; business combinations; etcetera.

Brawn and Brains

All the considerations above result in the determination of preliminary materiality. It is preliminary materiality as the calculation is performed during the planning stages of the engagement and may change as the engagement progresses. Preliminary materiality is used when designing procedures for the engagement and evaluating the results obtained from the procedures. A preliminary materiality that is either too high or too low can lead to engagement issues. Guidance usually notes that an excessively high materiality can result in an incorrect opinion. Inversely, the dangers of a materiality that is too low are less obvious, namely:

  • increased work effort;
  • information obtained during the engagement could result in a revised materiality and additional procedures to be considered;
  • individual or aggregated uncorrected misstatements become material faster;
  • self-interest threat given the increase in the extent of the work without a corresponding increase in the audit fee; and
  • undetected misstatements become material faster.

The first four can be managed during the engagement, the last one cannot, and is arguable the most dangerous to a practitioner. Whenever material misstatements are identified after the completion of the engagement, the situation usually escalates quickly. Such material misstatements that were undetected by the practitioner could end up with the engagement being labeled a failure by practice review or the courts, should it come to that. As such, it is vital to ensure that the engagement team considers materiality carefully so that the materiality determined is not too high, not too low, but just right.

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