- 20 Marks
Question
Wakaso Nigeria Limited has experienced serious labour turnover which has affected the business of the company in the last twelve months. The most frustrating issue was the resignation of a well-tested Financial Controller of the company close to year-end. Wakaso management is noted for timely financial reporting and rendering of tax returns due to the efficiency and effectiveness of the Financial Controller who was also involved in the preparation of tax computations. The company has been finding it difficult to quickly recruit a new Financial Controller that will match the technical ability of the former accountant. The Managing Director of the company has invited the company’s external auditors to a meeting, intimating them of the plan to employ their services to complete the write-up of the books of accounts and management account pending when they employ a good chartered accountant to handle the financial operations of the company.
The company’s management, in order to ensure timely reporting, has also informed the auditors that to save time and meet cost of operations, the firm’s staff will be accommodated in a five-star hotel with a mouth-watering offer of payment in lieu of feeding as recommended by the audit partner. In addition, the previous year’s audit fee will be doubled and an additional twenty percent payment made if the management accounts and audit work could be completed within three weeks.
The partner of the firm has rejected the offers on the grounds of possible threat to independence. The Managing Director complained to you, as his brother, lamenting that accountants are not good businessmen and uncooperative.
Required:
Discuss the following:
a. Meaning of threats to independence (2 Marks)
b. In relation to independence of auditors:
i. Fees and pricing (4 Marks)
ii. Financial interest (4 Marks)
iii. Contingent fees (2 Marks)
iv. Family and personal relationship (4 Marks)
c. The reasons why the preparation of accounting records and management accounts constitutes a threat to the independence of the auditors. (4 Marks)
Answer
a. Meaning of threats to independence
- Threats to independence refer to any relationships or circumstances that may compromise or appear to compromise an auditor’s impartial judgment. For example, offers of extravagant hospitality and a significant fee increase from a client may pose a risk to the auditor’s objective and unbiased stance.
b. Independence of auditors
i. Fees and pricing: Auditors should not rely on a single client for substantial income, as dependence on a client’s fees may compromise the auditor’s independence. The Institute limits such engagements to 25% of a firm’s income unless exempted. Excessive reliance on fees can pressure auditors to retain a client at the expense of integrity.
ii. Financial interest: An auditor must avoid any financial ties with a client, such as lending or borrowing funds. A financial stake in a client’s business, unless handled at arm’s length by a financial institution, is a direct threat to objectivity and can lead to bias in judgment.
iii. Contingent fees: Auditors should avoid engagements where fees depend on an event’s outcome. For example, if fees are contingent on completing an audit within a set timeframe, such dependence could encourage auditors to overlook issues to secure payment.
iv. Family and personal relationships: Close family or personal ties with a client’s staff, such as immediate family or friends, can affect objectivity. Such relationships may influence the auditor’s impartiality, especially if these individuals hold key positions within the client’s organization.
c. Reasons why preparation of accounting records and management accounts constitutes a threat to the independence of auditors
- The roles of preparing financial records and auditing those records are fundamentally separate to maintain objectivity. If auditors prepare the records, they risk reviewing their own work, which creates a self-review threat. Furthermore, even if the auditor remains unbiased, external users might perceive the auditor as lacking independence due to their dual role, which damages trust.
- Tags: Auditor Independence, Ethics, Family Relationships, Fees, Financial Interest
- Level: Level 2
- Topic: Professional Ethics and Code of Conduct for Auditors
- Series: MAY 2021
- Uploader: Kwame Aikins