• 20 Marks

SCS – L3 – Q30 – Ethical theories

Advise Apea Chemist Ltd on two approaches to managing ethics in organizations.

Apea Chemist Ltd is a company engaged in the manufacturing of various drugs for the local market. There have been series of ethical infractions within the company. Some top managements have been accused of insider trading, bribing of some key staff of the regulatory authorities and attempts to cover up alleged distribution of expired drugs. There is total breakdown of ethical standards within the company. The board of directors have expressed grave concerns about the current happenings in the company. At its last quarterly meeting, the board resolved to engage the services of a corporate governance expert to help address the situation. The board understands that there are two major approaches to managing ethics in an organization.

Required:
As a corporate governance expert, you have been engaged by the board to advise it on TWO approaches to the management of ethics in organizations.                                                                                                                                                                                                                                                                                                                                                                                                                                                   (bi)

The International Federation of Accountants (IFAC) Code of Ethics discusses the need for professional accountants to be aware of and avoid conflict of interest situation as well as maintain independence in carrying out their professional duties. The professional accountant is exposed to several threats to independence, which are likely to lead to conflict of interest. A threat may arise where an assurance firm provides services other than assurance services to an assurance client.

Required:
(i) Identify the specific threat a professional accountant or assurance firm faces by providing the following services:

  • Preparing accounting records and financial statements.
  • Valuation services.

    (ii) Suggest TWO measures each a professional accountant can take to minimize the threats identified in (i).

(a)

There are two approaches available to the board in its effort to resolve ethical issues in Pekosa Chemist Ltd. These are a compliance-based approach and integrity-based approach. Each of these approaches are discussed below:

Compliance-based approach
A compliance-based approach is basically designed to ensure that the company acts within the letter and spirit of the law, and that violations are prevented, detected and punished. Generally, organizations faced with the legal consequences of unethical behavior take legal precautions such as the following:

  • Follow laid down compliance procedure to detect misconduct on the part of any employee. The board should activate its compliance system by taking suspected employees through compliance procedures.
  • Institution of audits of various contracts within the company to unravel any unethical conduct by management.

Integrity-based approach
(This section is incomplete in the provided document, as the answer cuts off after the compliance-based approach. Based on standard knowledge of the topic, the integrity-based approach would typically focus on fostering an ethical culture through shared values, ethical leadership, and encouraging employees to act with integrity beyond mere legal compliance. However, as per instructions, only the provided answer is included.)                                                                                                                                                                                                                                                                                                                                                                                                           (bi)

          Specific Threats to Independence:

  • Preparing accounting records and financial statements:
    This creates a self-review threat. When an assurance firm prepares the accounting records and financial statements for an assurance client, it may subsequently audit those same records and statements. This compromises the auditor’s objectivity, as they are reviewing their own work, which may lead to a lack of impartiality or failure to identify errors or misstatements.
  • Valuation services:
    This creates a self-review threat and potentially an advocacy threat. If the assurance firm provides valuation services (e.g., valuing assets or liabilities) that have a material effect on the financial statements, the firm may later audit those valuations, reviewing its own work. Additionally, if the firm advocates for a particular valuation outcome to benefit the client, it may compromise its independence by aligning too closely with the client’s interests.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            (ii)

           Measures to Minimize Threats:

    • For preparing accounting records and financial statements:
      1. Use separate teams: Ensure that the team preparing the accounting records and financial statements is different from the team conducting the assurance engagement. This reduces the self-review threat by maintaining objectivity in the audit process.
      2. Client approval of records: Require the client’s management to take responsibility for the accounting records and financial statements prepared by the firm, including approving all significant adjustments. This ensures the client retains control and reduces the firm’s involvement in management decisions.
    • For valuation services:
      1. Independent review: Engage an independent third party or a separate team within the firm to review the valuations performed, ensuring objectivity and reducing the self-review threat.
      2. Limit scope of services: Restrict valuation services to those that do not have a material effect on the financial statements or avoid providing valuation services for assurance clients altogether to eliminate the threat.
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