Essay: Threats And Safeguards To Auditor Independence.

Conversation with the CEO of a Company

You are an audit manager with Clarke & Johnson (CJI). For the past years CJ has been the auditor of luxury Travel Holidays LTD (LTH), a travel company. Geoff, the audit partner, has asked you the to contact Chris, LTH’s CEO, with a view to CJ being re-engaged as the auditor for the upcoming audit of the 30 June 2015 financial report.Geoff has also indicated that intends to allocate Michael, a first-year accountant, and Annette, an accountant in CJ’s tax advisory department, to the LTH audit for the first time. Geoff suggested that you discuss the audit with each of these staff, with a view to identifying any independence issues. You held talks with Chris, Michael and Annette of these conversations
were as follows:
1. Conversation with Chris, situation 1
Chris stated: ‘The board of directors were impressed with last year’s audit and would like to propose reappointing CJ as the auditor of the 30 June 2015 financial report audit. The board would also like to invite Geoff to give a speech about LTH at the next travel agency seminar, to assist in promoting LTH’s business to attract more investors.

I understand that this is outside CJ’s normal practice; however, the board expressed the view that it will be very difficult for LTH to continue any business engagements with CJ should Geoff refuse to provide such assistance’.

Chris stated: ‘ To express our sincerity towards CJ and Geoff, and to maintain the good relationship in anticipation of another smooth audit for 2015, LTH would like to present a complimentary 14-day holiday package voucher for four people to the Greek isles for both Geoff’s and your family. All expenses, including accommodation and
travelling cost, will be paid by LTH’.

Michael stated: ‘I am very excited to be part of the audit team. I believe that I will be a valuable asset to the team, as my dad is LTH’s financial controller. He is responsible for the preparation of LTH’s financial report.’

Annette stated: ‘I am glad that I have been allocated to this year’s LTH’s audit team.It’s going to be a very efficient audit this year! I was on a temporary assignment at LTH’s just a month ago, helping LTH with its tax calculations and preparing accounting entries that will be reflected in the 30 June 2015 financial report, so I don’t think there will be much audit work required around the tax accounts. It will be great to catch up with everybody at LTH again, as they are so easy to work with.’
Required:
(a) For each situation, identify and evaluate any threats in relation to auditor independence 
(b) Identify any safeguards to those threats identified above

You are an audit senior with Crampton and Hasaad and you are planning the audit of Mining supplies LTD (MSL) for the year ended 30 June 2015. MSL sells mining equipment and spare parts to mining companies across Australia. MSL has operational centres in Perth, Newcastle, and Mt. Isa. Each operational centre warehouses the equipment and spare parts and provides sales and maintenance services. MSL’s head office is located in Melbourne where finance, IT
and other corporate services are provided. 

MSL has equipment purchase order contracts with a number of manufacturing suppliers based in Europe, Us and China. These manufactures build the specialised, made- to-order equipment and spare parts and ship them to MSL’s operational centres. Each item of equipment purchased by a customer comes with a two-year spare parts and labour warranty from MSL. The warranty entitles the customer to a maximum of one free maintenance service per year during the warranty period.

Depending on the type of equipment and customer’s location, a maintenance service can take between one day and one week. MSL uses contracted mobile mechanics who travel to the customer’s location to carry out all maintenance services. Some services require the mechanic to travel long distances, due to the remote locations. Any maintenance services that are inside that are outside the warranty conditions are billed to the customer. The billing covers a daily
labour rate for the mechanic’s time, any parts replaced and reimbursement for travel,accommodation and living expenses incurred by the mechanic.
Required:
(a) In relation to the purchasing of equipment and spare parts, describe two business risks to MSL that Crampton and Hasaad will consider in planning the 2015 audit
(b) For each business risk identified in (a) describe a specific audit risk that could arise.Each responses should include the identification of account balances that are impacted directly by the audit risk.

Conversation with the CEO of a Company

Conversation with Chris, CEO

Threat of Advocacy has been identified in relation to the auditor independence  (Edwin, 2015).

In the conversation with the Chief Executive Officer of the company, he has said that Geoff, audit partner of the audit firm Clarke and Johnson, have to promote the business of the company by revealing the benefits of the products of the company along with the other advantages that they provide to their customers. In addition to this, Chief Executive officer of the company has also laid down that in case Geoff does not do so the audit firm will not be engaged for the purpose of the audit in the next year. Thus, in provisions of APES 110, if an auditor promotes the company who is the auditee of the company then there is the presence of Threat of advocacy.

The threat of evaluation will be based on the nature of effect of work and the degree which it will impose on the objectivity of the auditor while giving the opinion on the financial statements.     

a) The auditee shall not provide such conditional work to the audit firm which can affect the independence of the auditor of the audit firm.

b) The auditor shall not accept such assignments where the objectivity and independence of the audit is at risk (Livine, 2005).

Conversation with Chris, CEO

Threat of self Interest  has been identified in relation to the auditor independence (Barizah, 2016).

In the continued conversation with Chris, the CEO of the company, he has stated that in order to have good relation for getting the audit of the next year in the smooth way, company is in the view to provide the fourteen day package for Greek isles for the family of audit partner Geoff and for the family of audit team member. In the given case, as per the provision of APES 110, there is the threat of self interest. The presence of this type of threat is noticed when the auditor of the company has been offered with free package in order to have good relation in the next year audit. It has hurted the independence of an auditor in the complete manner.  

a) The audit firm shall refuse to accept such type of offers when engaged in the company as an auditor. It is because the auditor will not be able to object for any financial transaction that occurs in the auditee company.

b) There shall be the proper rotation of audit firms every regular intervals and also the audit team and partner shall also be changed in any manner (Livine, 2005).  

Conversation with Michael

Threat of familiarity or trust in relation to auditor independence(UK, 2013)

In this situation, the member of the audit team engaged in auditing of the company came to know that Finance Controller of the company is his father. It depicts that the audit team member have long lasting relationship and it is very clear that this relationship can hamper the audit objections and there may be high chances of getting it rectified at that level only and thus the audit objection which may contain the material misstatements will not be received by the audit partner and thus the reporting of the auditor will not be objective and independent. Thus type of threat can also lead the situation of audit partner getting any review of the audit observations being performed by the auditors.  

Assignment of First-Year and Tax Advisory Accountants to an Audit

a) The audit firm shall make the procedure that the personnel of audit firm who is related to the officers, directors or executives of the auditee company in any manner than he or she shall disclose the interest at the time of the decision being made for their engagement as the member of the audit team.

b) There shall be proper rotation of team member of audit division so that the chances of having this threat can be reduced (Livine, 2005).

Conversation with Annette

Threat of Self Review (Parker, 2015).

In the given situation, the audit team member Annette has performed the accounting and taxation work for the LTH company for two months and has been able to develop cordial relations with then staff members. This situation has lead to the threat of self review to the auditor independence. This type of threat is present when the auditor of the company has also performed the non audit services of the same company. The self review will make the auditor so engaged ignoring and will make her to ignore the mistakes that she has committed during the non audit service and tries to rectify the same at lower level. She does so because of the view that the overall accounting is required to be done by her only either before the audit or after that. Thus, the presence of this type of threat is high in this situation.  

a) The audit firm shall not take the non audit services of the same client and if taken then the proportion of the same shall be limited to some extent.

b) The audit team member shall be rotated on timely basis and it shall be adhered that then same personnel will not be engaged in the audit of the company who has served the company with the non audit services (Livine, 2005).

Foreign Exchange Risk – The first business risk that has been encountered by the company – Mining Supplies Limited while making purchases is the Foreign Exchange Risk (Imrie, 2011). Foreign Exchange risk is the risk that the company bears when the company is purchasing from the overseas suppliers. For instance the company is in Australia and purchasing from the vendors located in United Kingdom, United States of America and China.

When the transaction for purchase is entered the rate per dollar in reporting currency is $5 and when the payment is made for the same after sometime as per the terms and conditions of the purchase order then the rate is $5.50. There will be the loss of $0.50 in the case of each and every purchase and the company shall take into consideration in the serious way. In order to mitigate this, the company shall hedge the currency exposure in any manner as prescribed.    

The two audit risks has been identified in such situation -

Inherent Risk – Inherent risk is the risk that occurs mainly due to the inherent limitation present in the working of the organization as well as in the external environment of the organization. In the given situation, the company has been facing the currency exposure from the beginning when the company has started making purchases from the outside the home country. The auditor shall consider this type of risk in his audit plan and prepare the audit checklist accordingly as to where the effect of the same will be reflected and how the same have to be dealt with books of accounts as per the relevant accounting standards (Long, 2015)..

Planning an Audit for a Mining Supplies Company

Control Risk – Control risk is the term referred for lack of internal control procedures, rules and regulations within the internal environment of the company otherwise the company would have taken the hedge cover for the currency exposure. This risk shall also be considered by the auditor in the given situation and to be check how it will dealt within the financial statements (Becker, 2015).  

Following account balances will be affected by these risks:

- Account of Purchase

- Account of Trade Payables

- Account of Foreign Currency Exchange Gain or Loss

Loss of Stock – Stock is the major item for the functioning of any business. Without having the stock, the company would not be able to serve the customers in the market. In the situation it has been observed that the company has nowhere mentioned about the loss of stock during the transportation from the shipped airport to the destination airport. Therefore in case the loss occurs then the company will be held liable for the loss if any including the demurrage charges. The same will be accounted for as an expense in the books of accounts of the company as per the Generally Accepted Accounting policies and principles.   (EY, 2016)

The risk that has been identified in this situation is the inherent risk.

Inherent risk as discussed occurs due to the inherent limitations present in the internal working environment of the company. In the given situation the company has been purchasing the equipment since its steps into the market and have never considered about the major issue of loss of stock.

The loss of stock that may occurs in transit may be because of many reasons and also if the stock so received are in total defective then also the company is facing the risk of total loss as the company has also not mentioned the provision of replacement if any in the purchase order. The both two cases have to be considered by the auditor in his audit plan and audit checklist and check whether the same have been considered while making the accounting for the loss. The inherent risk so occurred will make the auditor to issue the qualified report even when there are the chances that the company’s going concern assumption may get affected.  

References

Becker E, (2015), “Audit Risk vs. Business Risk”, available at https://www.osyb.com/blog/small-business/audit-risk-vs-business-risk/  accessed on 28/04/2017

Barizah N, (2016), “Threats to Auditor Independence”, available at https://www.academia.edu/260449/Threats_to_Auditor_Independence  accessed on 28/04/2017

Edwin M, (2015), “Analysis of Threats to Auditor Independence and Available Safeguards against those threats”, available at https://www.academia.edu/9406967/THREATS_TO_AUDITORS_INDEPENDENCE  accessed on 28/04/2017

EY, (2016), “Top 10 Business Risks”, available at https://www.ey.com/Publication/vwLUAssets/EY-business-risks-in-mining-and-metals-2016-2017/%24FILE/EY-business-risks-in-mining-and-metals-2016-2017.pdf accessed on 28/04/2017

Imrie B, (2011), “Business Risks facing the Mining Industry”, available at https://www.in.kpmg.com/SecureData/ACI/Files/Top_20_Risks_the_Mining_Industry.pdf  accessed at 28/04/2017

Livine G, (2015), “Threats to Auditor Independence and Possible Remedies”, available on https://www.financepractitioner.com/auditing-best-practice/threats-to-auditor-independence-and-possible-remedies?full   accessed on 28/04/2017

Long G, (2015), “Audit Risk and Business Risk”, available at https://www.cpaireland.ie/docs/default-source/Students/Study-Support/P2-Audit-Practice-Assurance-Services/audit-risk-and-business-risk.pdf?sfvrsn=0   accessed on 28/04/2017

Parker A, (2015), “6 Key Threat to Auditor Independence”, available on https://www.intheblack.com/articles/2015/01/06/6-key-threats-to-auditor-independence   accessed on 28/04/2017

UK Essays, (2013), “Threat To Auditor Independence Accounting Essay.” Available at https://www.uniassignment.com/essay-samples/accounting/threat-to-auditor-independence-accounting-essay.php?cref=1 Accessed on 28/04/2017.