Advantages

• Increased fees – this would be especially advantageous as the audit firm has recently lost two clients.
• There is the possibility of additional work (i.e. management consultancy) as well as the audit which would significantly increase the firm’s overall fee income.

Disadvantages (and risks)

• Lakadi Leisure Ltd. (Lakadi) is currently experiencing difficulties in respect of revenue.
• Lakadi has had staff morale problems which could make the audit more difficult as staff may be unwilling to co-operate with the auditors or may present an unbalanced view of circumstances due to their low morale.
• Lakadi has not invested in non-current assets recently. This has only compounded its current financial problems and will not help in improving the outlook for the future and the company’s long term viability, especially taking into account the other mitigating factors such as the retirement of managing director, staff issues and pending litigation.
• There is a litigation case currently outstanding from an employee regarding an accident in the workplace – the audit firm would have to ensure that is correctly treated. Furthermore, the finance director is suing Lakadi in its unfair dismissal. Both of these litigation cases should put the audit firm on notice that the situation within Lakadi is one which is far from ideal for taking over an audit.
• The audit firm should ascertain what has happened to the previous auditors auditors. i.e. did they resign, or were they removed from office – reasons for either or these situations should be ascertained. The previous auditors should be contacted for relevant information.
• Although the audit fee represents increased total fee income for the firm, this, together with the potential amount for the consultancy support, would mean that the total income from Lakadi represented 14.3% of the firm’s total fee income and might create a self-interest or intimidation threat to independence. Clearly, this is well within the limit of 30% after which additional safeguards apply for a company that is not a public interest entity. However, the audit firm would have to take care this is not breached if any additional work is requested by Lakadi.
  • A company search should be undertaken to confirm who is involved in the running of Lakadi, and a copy of the filed financial statements should be obtained. Credit references should also be obtained.
  • Discussions should be held with management and their lawyers regarding the litigation case, as the outcome of the cases could have a significant impact on the profit for the year.
  • If the tender is unsuccessful then all the work involved will have been wasted and this clearly has a cost implication to the audit firm.
  • Background information regarding the industry as a whole and for Lakadi specifically should also be obtained to ascertain whether or not expert assistance would be required, and whether the audit firm has the relevant skills and experience to perform the audit.                                                                                                                                                                                                                                                                                                                                                                               B.
    • What work will be required to be performed for the audit – this depends on how complex Lakadi’s financial affairs are and whether or not the audit firm will be able to rely on the controls in existence. Although the latter will not be known until the audit work is started, the firm may be able to get a feel for this from the initial information obtained. The tender should state this and make allowance for this in the price.
    • What the fee is for similar companies audited in respect of size, complexity, degree of risk.
    • What the set up costs would be for the audit and then subsequent annual costs. The first audit will obviously take more time due to the systems documentation required.
    • The level and number of staff that will need to be involved in the audit.
    • The fee charged must be able to be clearly explained and analysed.
    • Whether or not the fee can be easily renegotiated at a later date.
    • Ensure that the client is clear as to what is included in the audit fee and what would have to be paid for in addition if required.                                                                                                                                                                                                                                                                                                                                                                             C.
      • The fee and how it has been calculated.
      • The nature, purpose and legal requirements of an audit.
      • An assessment of Lakadi’s requirements for the audit and the management consultancy support.
      • Details of how the audit firm will satisfy Lakadi’s requirements in respect of the audit and the management consultancy support.
      • Any assumptions made by the audit firm in preparing the tender e.g. work to be done by Lakadi’s staff.
      • The audit methodology/approach to be used for the audit, together with how the management consultancy work would be approached.
      • Details of the firm and its personnel who are likely to be used on the audit and for the management consultancy work (organisation charts may also be included).
      • The other services that the audit firm can offer in addition to management consultancy.