WK 4 Audit Acceptance and Ethical Framework.ppt

ACCT 304 AUDITING Week 4 Audit Acceptance and Ethical Framework Dr Edem E. Sabah Welbeck  Outline Appointment Procedure – Pre-acceptance conditions – Post-acceptance procedures – Letter of engagement Code of Ethics – Introd...

ACCT 304 AUDITING Week 4 Audit Acceptance and Ethical Framework Dr Edem E. Sabah Welbeck  Outline Appointment Procedure – Pre-acceptance conditions – Post-acceptance procedures – Letter of engagement Code of Ethics – Introduction – Fundamental ethical principles – Threats to Independence – Threats to Objectivity – Safeguards to threats  Pre-acceptance conditions Legal considerations – Companies Code provisions Ethical considerations – Relationships – Fees – Conflict of interest – Financial involvement Practical /operational considerations – Risks consideration – Human resource requirement/capacity – Time availability  Seeking reference about a client It is important that the auditors obtain knowledge of the client’s business sufficiently enough to enable them identify and appreciate issues that impact on the business of the client. Independent enquiries should be made concerning the status of the company Sources for seeking reference about clients: – previous auditors; – confidential enquiries from prospective client’s bankers, solicitors, underwriters, registrar, etc. – prior-year financial statements; – professional rules, regulations and standards; – specific rules and regulations pertaining to the industry; – the regulations of the client’s company  Seeking Reference about prospective clients –Knowledge areas general economics factors; industry conditions affecting the client’s business; the entity itself, covering such aspects as composition of board of directors, management profile etc; the entity’s products, market, supplies, expenses and operations; the entity’s financial performance and condition; the reporting environment;  Post-acceptance procedures If offered an audit role, the auditor should: Ask client permission to contact the outgoing auditor (decline offer if permission is not granted) Contact the outgoing auditor Ensure appropriate conclusion of exit procedures for outgoing auditor Assist outgoing auditor to secure payment of outstanding fees Ensure formalization of new appointment Obtain copy or extract of AGM resolution Issue of letter of engagement Proper handing over from out-going auditor  Engagement Letter-Main Considerations Issued by the auditor to the client Should be sent before commencement of audit Specifies the nature of contract between the auditor and the auditee Minimizes the risk of any misunderstanding of the auditor’s role Should be reviewed every year to ensure that it is up to date It does not necessarily need to be re-issued every year unless there are changes in the terms of engagement The auditor must issue a new EL if the scope and terms of the engagement change ISA 210 requires the auditor to consider whether there is the need to remind the client of the existing terms of recurring audit Some firms choose to send a new EL every year to emphasise its importance  Purpose of Letter of Engagement It defines clearly the extent of the auditors’ and directors’ responsibilities. By formalizing the terms of the engagement, it helps to minimize the possibilities of any misunderstanding between the auditors and the client. It provides written confirmation of the auditors’ acceptance of the appointment. It confirms in writing verbal arrangements in respect of scope of the audit, the form of their report and the scope of any non-audit service.  Contents of the Engagement Letter [ISA 210] The objective and scope of the audit of the financial statements; The responsibilities of the auditor; The responsibilities of management; Identification of the applicable financial reporting framework for the preparation of the financial statements; and Reference to the expected form and content of any reports to be issued by the auditor and a statement that there may be circumstances in which a report may differ from its expected form and content The fact that because of the test nature and other inherent limitations of an audit, together with the inherent limitations of internal control, there is an unavoidable risk that even some material misstatement may remain undiscovered; and Unrestricted access to whatever records, documentation and other information requested in connection with the audit.  Other contents Arrangements regarding the planning and performance of the audit. Expectation of receiving from management written confirmation concerning representations made in connection with the audit. Request for the client to confirm the terms of the engagement by acknowledging receipt of the engagement letter. Description of any other letters or reports the auditor expects to issue to the client. Basis on which fees are computed and any billing arrangements.  Other contents – cont’d. Arrangements concerning the involvement of other auditors and experts in some aspects of the audit. Arrangements concerning the involvement of internal auditors and other client staff. Arrangements to be made with the predecessor auditor, if any, in the case of an initial audit. Any restriction of the auditor’s liability when such possibility exists. A reference to any further agreements between the auditor and the client.  Reasons for issuing a new EL for recurring audit Any indication that the client misunderstands the objective and scope of the audit. Any revised or special terms of the engagement. A recent change of senior management or those charged with governance. A significant change in ownership. A significant change in nature or size of the client’s business. Legal or regulatory requirements  Audit of Components When the auditor of a parent company is also the auditor of its subsidiary, branch or division, the factors that influence the decision whether to send a separate engagement letter to the component include the ff: – Who appoints the auditor of the component – Whether a separate auditor’s report is to be issued on the component – Legal requirements – The extent of any work performed by other auditors – Degree of ownership by parent Degree of independence of the components’ management  CODE OF ETHICS A distinguishing mark of the accountancy profession is its acceptance of the responsibility to act in the public interest. Therefore, a auditor’s responsibility is not exclusively to satisfy the needs of an individual client or employer but is expected to act in the public interest. Fundamental Ethical Principles – Integrity – Objectivity – Professional competence and due care – Confidentiality, and – Professional behaviour  Integrity The principle of integrity imposes an obligation on all auditors to be straightforward and honest in all professional and business relationships. Integrity also implies fair dealing and truthfulness An auditor shall not knowingly be associated with reports, returns, communications or other information where the auditor believes that the information: – Contains a materially false or misleading statement; – Contains statements or information furnished recklessly; or – Omits or obscures information required to be included where such omission or obscurity would be misleading. When an auditor becomes aware that the accountant has been associated with such information, the auditor shall take steps to be disassociated from that information.  Objectivity Not to allow bias, conflict of interest or undue influence of others to override professional or business judgments The principle of objectivity imposes an obligation on all professional accountants not to compromise their professional or business judgment because of bias, conflict of interest or the undue influence of others.  Professional competence and due care Requires an accountant to maintain professional knowledge and skill at the level required to ensure that a client or employer receives competent professional services based on current developments in practice, legislation and techniques and act diligently and in accordance with applicable technical and professional standards. The principle of professional competence and due care imposes the following obligations on all professional accountants: – To maintain professional knowledge and skill at the level required to ensure that clients or employers receive competent professional service; and – To act diligently in accordance with applicable technical and professional standards when providing professional services.  Professional competence and due care – cont’d. Competent professional service requires the exercise of sound judgment in applying professional knowledge and skill in the performance of such service. Professional competence may be divided into two separate phases: – Attainment of professional competence; and – Maintenance of professional competence. The maintenance of professional competence requires a continuing awareness and an understanding of relevant technical, professional and business developments. Continuing professional development enables a professional accountant to develop and maintain the capabilities to perform competently within the professional environment.  Professional competence and due care – cont’d. Diligence encompasses the responsibility to act in accordance with the requirements of an assignment, carefully, thoroughly and on a timely basis. A professional accountant shall take reasonable steps to ensure that those working under the professional accountant’s authority in a professional capacity have appropriate training and supervision.  Confidentiality This requires accountants/auditors to respect the confidentiality of information acquired as a result of professional and business relationships and, therefore, not disclose any such information to third parties without proper and specific authority, unless there is a legal or professional right or duty to disclose, nor use the information for the personal advantage of the professional accountant or third parties The principle of confidentiality imposes an obligation on all professional accountants to refrain from: – Disclosing outside the firm or employing organization confidential information acquired as a result of professional and business relationships without proper and specific authority or unless there is a legal or professional right or duty to disclose; and – Using confidential information acquired as a result of professional and business relationships to their personal advantage or the advantage of third parties.  Confidentiality – cont’d. A professional accountant shall maintain confidentiality, including in a social environment, being alert to the possibility of inadvertent disclosure, particularly to a close business associate or a close or immediate family member. The need to comply with the principle of confidentiality continues even after the end of relationships between a professional accountant and a client or employer. When a professional accountant changes employment or acquires a new client, the professional accountant is entitled to use prior experience. The professional accountant shall not, however, use or disclose any confidential information either acquired or received as a result of a professional or business relationship.  Confidentiality – cont’d. The following are circumstances where professional accountants are or may be required to disclose confidential information or when such disclosure may be appropriate: – Disclosure is permitted by law and is authorized by the client or the employer; – Disclosure is required by law, for example: Production of documents or other provision of evidence in the course of legal proceedings; or Disclosure to the appropriate public authorities of infringements of the law that come to light; and – There is a professional duty or right to disclose, when not prohibited by law: To comply with the quality review of a member body or professional body; To respond to an inquiry or investigation by a member body or regulatory body; To protect the professional interests of a professional accountant in legal proceedings; or To comply with technical standards and ethics requirements.  Professional Behaviour Requires accountants to comply with relevant laws and regulations The principle of professional behavior imposes an obligation on all professional accountants to comply with relevant laws and regulations and avoid any action that the professional accountant knows or should know may discredit the profession. This includes actions that a reasonable and informed third party, weighing all the specific facts and circumstances available to the professional accountant at that time, would be likely to conclude adversely affects the good reputation of the profession.  Threats to Independence and Objectivity Undue dependence on an audit client Overdue fees Actual or threatened litigation Associated firms: Influences outside the practice Family and other personal relationship Beneficial interest in shares and other investments Beneficial interest in trust Trustee investments Voting on audit appointment Loans Goods and services: Hospitality Provisions of other non-audit services  Classification of Threats to Objectivity Self Interest threats Self Review threats Advocacy threats Familiarity threats Intimidation Threats  Self Interest Threats Examples of circumstances that create self-interest threats include: A member of the assurance team having a direct financial interest in the assurance client. A firm having undue dependence on total fees from a client. A member of the assurance team having a significant close business relationship with an assurance client. A firm being concerned about the possibility of losing a significant client. A member of the audit team entering into employment negotiations with the audit client. A firm entering into a contingent fee arrangement relating to an assurance engagement. A PAPP discovering a significant error when evaluating the results of a previous professional service performed by a member of the PAPP’s firm.  Self Review Threat Examples of circumstances that create self-review threats for a PAPP include: A firm issuing an assurance report on the effectiveness of the operation of financial systems after designing or implementing the systems. A firm having prepared the original data used to generate records that are the subject matter of the assurance engagement. A member of the assurance team being, or having recently been, a director or officer of the client. A member of the assurance team being, or having recently been, employed by the client in a position to exert significant influence over the subject matter of the engagement. The firm performing a service for an assurance client that directly affects the subject matter information of the assurance engagement.  Advocacy Threats Examples of circumstances that create advocacy threats for a PAPP include: The firm promoting shares in an audit client. A PAPP acting as an advocate on behalf of an audit client in litigation or disputes with third parties.  Familiarity Threats Examples of circumstances that create familiarity threats for a PAPP include: A member of the engagement team having a close or immediate family member who is a director or officer of the client. A member of the engagement team having a close or immediate family member who is an employee of the client who is in a position to exert significant influence over the subject matter of the engagement A director or officer of the client or an employee in a position to exert significant influence over the subject matter of the engagement having recently served as the engagement partner. A PAPP accepting gifts or preferential treatment from a client, unless the value is trivial or inconsequential. Senior personnel having a long association with the assurance client.  Intimidation Threats Examples of circumstances that create intimidation threats for a PAPP include: A firm being threatened with dismissal from a client engagement. An audit client indicating that it will not award a planned non- assurance contract to the firm if the firm continues to disagree with the client’s accounting treatment for a particular transaction. A firm being threatened with litigation by the client. A firm being pressured to reduce inappropriately the extent of work performed in order to reduce fees. A PAPP feeling pressured to agree with the judgment of a client employee because the employee has more expertise on the matter in question. A PAPP being informed by a partner of the firm that a planned promotion will not occur unless the accountant agrees with an audit client’s inappropriate accounting treatment. Safeguards to Mitigate threats to objectivity Safeguards that may eliminate or reduce threats to an acceptable level fall into two broad categories: – Safeguards created by the profession, legislation or regulation; and – Safeguards in the work environment. Safeguards created by the profession, legislation or regulation Safeguards created by the profession, legislation or regulation include: Educational, training and experience requirements for entry into the profession. Continuing professional development requirements. Corporate governance regulations. Professional standards. Professional or regulatory monitoring and disciplinary procedures. External review by a legally empowered third party of the reports, returns, communications or information produced by a professional accountant.  Safeguards in the workplace environment In the work environment, the relevant safeguards will vary depending on the circumstances. Work environment safeguards comprise –firm-wide safeguards, and –engagement-specific safeguards  Firm-wide Safeguards in the workplace environment Examples of firm-wide safeguards in the work environment include: Leadership of the firm that stresses the importance of compliance with the fundamental principles. Leadership of the firm that establishes the expectation that members of an assurance team will act in the public interest. Policies and procedures to implement and monitor quality control of engagements. Documented policies regarding the need to identify threats to compliance with the fundamental principles Documented internal policies and procedures requiring compliance with the fundamental principles. Policies and procedures that will enable the identification of interests or relationships between the firm or members of engagement teams and clients.  Firm-wide Safeguards in the workplace environment – cont’d. Policies and procedures to monitor and, if necessary, manage the reliance on revenue received from a single client. Using different partners and engagement teams with separate reporting lines for the provision of non-assurance services to an assurance client Policies and procedures to prohibit individuals who are not members of an engagement team from inappropriately influencing the outcome of the engagement. Timely communication of a firm’s policies and procedures, including any changes to them, to all partners and professional staff, and appropriate training and education on such policies and procedures. Designating a member of senior management to be responsible for overseeing the adequate functioning of the firm’s quality control system  Firm-wide Safeguards in the workplace environment – cont’d. Advising partners and professional staff of assurance clients and related entities from which independence is required. A disciplinary mechanism to promote compliance with policies and procedures. Published policies and procedures to encourage and empower staff to communicate to senior levels within the firm any issue relating to compliance with the fundamental principles that concerns them.  Engagement –specific work environment safeguards Examples of engagement-specific safeguards in the work environment include: Having a PAPP who was not involved with the non-assurance service review the non-assurance work performed or otherwise advise as necessary. Having a PAPP who was not a member of the assurance team review the assurance work performed or otherwise advise as necessary Consulting an independent third party, such as a committee of independent directors, a professional regulatory body or another PAPP. Discussing ethical issues with those charged with governance of the client. Disclosing to those charged with governance of the client the nature of services provided and extent of fees charged. Involving another firm to perform or re-perform part of the engagement. Rotating senior assurance team personnel  The Qualities of an Auditor The Nine qualities which the Auditing Practices Board believes should characterize the auditor: – Accountability – Integrity – Objectivity and Independence – Competence – Rigour – Judgement – Clear, complete and effective communication – Association – Providing Value  Multiple Choice Questions 1 Which two of the following are elements of an assurance engagement? (1) A three-party relationship (2) Suitable criteria (3) Determination of materiality (4) An engagement letter A (1) and (2) only B (1) and (3) only C (2) and (3) only D (1) and (4) only  Multiple Choice Questions 2 What is the correct order of the following stages involved in the development of an International Standards on Auditing [ISA]? (1) Distribution of exposure draft for public comment (2) Consideration of comments received as a result of the exposure draft (3) Approval by IAASB members (4) Establishment of task force to develop draft standard (5) Discussion of proposed standard at a public meeting A (1), (5), (4), (3), (2) B (3), (4), (1), (2), (5) C (4), (5), (1), (2), (3) D (5), (4), (2), (1), (3)  Multiple Choice Questions 3 Which of the following is the most appropriate definition of the external audit? A The external audit is an exercise carried out by auditors in order to give an opinion on whether the financial statements of a company are materially misstated B The external audit is an exercise carried out in order to give an opinion on the effectiveness of a company's internal control system C The external audit is performed by management to identify areas of deficiency within a company and to make recommendations to mitigate those deficiencies D The external audit provides negative assurance on the truth and fairness of a company's financial statements  Multiple Choice Questions 4 Which of the following is/are not a statutory right of the auditors of a limited liability company? (1) A right to attend all directors' meetings and receive all notices and communications relating to such meetings (2) A right to speak at general meetings on any part of the business that concerns them as auditors (3) A right to attend any general meeting and receive all notices and communications relating to such meetings A (1) only B (1) and (3) C (2) only D (2) and (3)  Multiple Choice Questions 5 In which of the following situations would the auditor be able to disclose confidential information about a client? (1) Disclosure is required by law (2) Disclosure is permitted by law but the auditor has not requested the client's permission (3) The auditor suspects that the client has committed money-laundering offences A (1) and (2) only B (1) and (3) only C (2) and (3) only D (1), (2) and (3)  Multiple Choice Questions 6 AB & Co audits DEF Ltd. Which two of the following circumstances would constitute a threat to objectivity? (1) An employee of AB & Co owns shares in DEF Ltd but is not part of the audit team (2) The best friend of the engagement partner owns a significant indirect financial interest in DEF Ltd (3) The audit manager of DEF Ltd owns a small number of shares in DEF Ltd (4) The husband of the audit partner owns shares in DEF Ltd A (1) and (2) B (1) and (4) C (2) and (3) D (3) and (4)  Multiple Choice Questions 7 Which of the following internal audit assignments is described below? The examination of the economy, efficiency and effectiveness of activities and processes. A Regulatory compliance audit B Value for money audit C Financial audit D IT audit  Multiple Choice Questions 8 Which of the following internal audit assignments aims to monitor management's operations and ensure that company policy is followed? A Value for money B Fraud investigation C Financial D Performance  Multiple Choice Questions 9 A private company has requested that its auditor prepare a valuation report on a prospective acquisition target in order to help it obtain finance for the acquisition from its bank. Which two of the following threats may arise if the auditor agrees to take on this assignment? A Self-review threat B Familiarity threat C Advocacy threat D Self-interest threat  Multiple Choice Questions 10 Which of the following statements best reflects the auditor's duty of confidentiality? A Auditors must never, under any circumstances, disclose any matters of which they become aware during the course of the audit to third parties, without the permission of the client B Auditors may disclose any matters in relation to criminal activities to the police or taxation authorities, if requested to do so by the police or a tax inspector C Auditors may disclose matters to third parties without their client's consent if it is in the public interest, and they must do so if there is a statutory duty to do so D Auditors may only disclose matters to third parties without their client's consent if the public interest or national security is involved