Why are related party transactions considered high risk?

Related party transactions are considered high risk primarily because related party relationships may be complex. Such relationships can obscure the true nature of transactions, as they often involve parties that have a vested interest in one another, which can influence the terms and conditions in ways that do not reflect market norms. This complexity increases the risk of financial misstatement, as related parties may engage in transactions that could be manipulated to achieve certain financial reporting objectives or to obscure the financial position of an entity.

In addition, these transactions might not be conducted at arm's length, which can lead to potential conflicts of interest and a lack of transparency. This necessitates thorough scrutiny by auditors to ensure that financial statements present a true and fair view of the company’s financial situation.

Other options do not capture the essence of the risk associated with related party transactions. For example, the notion that they can be straightforward and easy to evaluate contradicts the inherent complexities involved. Similarly, stating that they typically do not require disclosure undermines the regulatory framework that mandates transparency in financial reporting of related party transactions to protect stakeholders. Lastly, while some related party transactions may be documented thoroughly, this does not mitigate the inherent risks, as the quality and integrity of the documentation can vary significantly.