Audit Committee Financial Expertise And Earnings Management

Assessment of Books of Accounts by the Auditor

Discuss about the Audit Committee Financial Expertise and Earnings Management.

The below discussion reflects the application of view in terms of accounting and auditing. The manner in which the audit provisions is applied by the auditor as well as the management while preparing the books of accounts and verifying the records has been prescribed below:

This approach states that, while assessing the books of accounts, the first thing which is assessed is that the relevant accounting standards have been followed or not in preparation of accounts. The basis of accounting is acceptable or not is checked by assessing the policies followed by the entity (Hayes, 2014). It can be said that the first part of the view that ‘one lobe of the brain wants to study facts and test hypothesis on them’ is related to accounts of an entity. As the facts, that is the data of the entity for a certain period is analysed in accordance with the data available.

The other part of the view is related in  a manner that accounts are prepared as per the standards unless any circumstance arises, in which books of accounts will be present more true and fair view in case standard is not followed (William and et.al. 2016). According to the analysis, it could be said that while preparation and assessing accounts, a setup is present in mind that books of accounts should be in accordance with the standard and at the same time a part of the mind is analysing the other factors due to which the standards could not be followed (Kennan and et.al, 2014).

The auditor has to form an opinion, on the basis of his view in respect to books of accounts of an entity. According to the above concept, the audit of every entity is done with a mind set up that everything will be in accordance with standards and not that errors will be surely found (Lisic and et.al., 2015). But at the same time while assessing the books or records, if any abnormal transaction or data is received than detail analysis is done.

The opinion and method of auditing are dependent on the quality of internal control and quality of data available to the entity. The presence of unreasonable transactions derives mystic symbol and analogies in their respect (Pitt, 2014). It has its impact on other transactions also, as once the suspicion arises, the auditor will think twice even if the transaction are acceptable. It can be possible in case; the management is neither allowing communicating with the creditors for verification of their balance nor itself communicating with them for getting confirmations. The opinion formed by an auditor is based on the circumstances present before him after completion of the assessment of complete books of accounts. It cannot be judged by verifying a part of books of account or on the basis of the opinion of the previous year.

Relationship Between the Auditor and Management

The relationship between the auditor and management is necessary for the audit. Audit cannot be concluded with efficiency and ease in case a strong bond between the two is not present; the same has been discussed here:

The financial statements are the responsibility of management and not of the auditor. The auditor is responsible for expressing an opinion in accordance with availed evidence (Thompson, 2013). It is the responsibility of management to adopt sound accounting policies, maintain internal control and to present financial statements in conformity with generally accepted accounting principal. It is the duty of the auditor; to plan and perform the audit to express an opinion regarding financial statements of an entity.

The information and data relating to assets and liabilities, equity and other are under the control of management. The knowledge of internal control and assertions of management are available to the auditor to a certain extent only. The nature of audit is such that it cannot be performed without the assistance of management. As at every step i.e. in evaluating the environment of the entity, known facts and data of a transaction, information is taken from management only (Tricker, 2015).

The trust is the basis for which the auditor uses the information made available by them. In the case of weak internal control, it is not present; thus, in that case, sufficient appropriate evidence is availed from sources outside the management as banks or customers. In case, once a suspicion has arisen regarding the details provided by management, it affects all the previous information on which auditor trusted (Westphal and Zajac, 2013.). It might even change the opinion of the whole audit, and the situation regarding revision of the whole audit could also arise.

Thus, it can be said that the statement ‘Trust takes years to build, seconds to break and forever to fix’ perfectly matches to the relation of management and auditor. As in case once it is developed on the basis of previous information supplied by the management and one wrong information gets all the previous information into suspicion. It is not possible for an auditor to trust again as he knows the importance of his opinion. The representations made by management are assessed in a different view, once the trust is broken (William and et.al. 2016). In case the amount of trust is sufficient on management the certainty of detail investigation is less, as the auditor has a belief that the information supplied by the management is appropriate.

Martin Shkreli Case Example

The audit is done according to the facts and data made available by the management. All the confusions are resolved through discussions with management only. In case the trust is not present it is not possible for an auditor to express an appropriate opinion because the base of audit i.e. trust is not present (Garran and O’Sullivan ,2013). Analytical procedure and detail investigation are done in case the auditor is having doubt regarding the data made available by management and it that situation chances of clear opinion are reduced and disclaimer opinion are increased. The stronger the bonding, the easier the procedure of audit as all details availed is assumed to be correct in the case when no suspect has arisen.

The history of Martin Shkreli has been provided with details regarding the companies of which he was a part. The major changes faced by the company under his management has been provided in this part.

Martin Shkreli is an American entrepreneur and pharmaceutical executive. He is  co-founder and former CEO of Retrophin and Turing Pharmaceuticals. A widespread criticism was faced by him during September 2015 for when Turing obtained a license for drug Daraprim which raised the price of the drug from the US $ 13.5 to the US $ 750 per tablet (EVERYTHING YOU KNOW ABOUT MARTIN SHKRELI IS WRONG—OR IS IT? 2015). He was invited on federal charges by FBI for securities fraud and was replaced with Ron Tiles by the board of Turing Pharmaceuticals.

In may 2014 when shkreliwas part of Retrophin, the price of drug Thiola raised from $ 1.5 to $30 per pill (Carrier and et.al 2016), it was considered as almost conscious hike in the price of a tablet but even after his resignation, the price was not decreased rather an alternative tablet was launched against it for the same disease. Even a lawsuit of big amount approx sixty-five million dollars was filed against him for breaching his duty of loyalty in a long-running dispute over the use of funds of the company.

After departure from Retrophin, he founded Turing Pharmaceuticals and set a business strategy to obtain a license on out- of- patient medicines and revalue the price of each without developing and bringing its own medicine to the market. The price of Daraprim as state above was increased and keeping with the revaluation strategy for pricing, tightly controlled distribution methodology was adopted by the company.

The statutory compliance which was not followed by him and the complaints against him regarding not following the basic principals while performing his obligations have been discussed here:

Corporate Governance is a framework of rules, process and relationship by which authority is controlled and exercised in corporations. Its structure establishes the role of the board and senior executives in eight principals (Erkens and et.al., 2012). All the rules have equal importance. Principal 2.deals with the basic need for integrity among board and senior executives who can influence the strategy and financial performance of company along with ethical decision making which is not only a legal obligation but also of the importance of stakeholders. The above discussed data is included in corporate governance statement in the annual report of the company (APPC “Audit Quality in Australia”, 2012).

Statutory Compliance and Corporate Governance

According to Securities and Exchange Commission complaint was filed against Shkreli for playing a role as a portfolio manager for funds named as MSMB Capital Management of LP and MSMB Healthcare LP. He misappropriated the funds of the company by lawfully paying for food, clothing and medical expenses amounting $ 120000. The investors and prospective investors of MSMB management were misled by him that returns have been +35.77% when the same have been -18%( Clarke and Friedman, 2016). Many complaints have been filed against him for misleading the investors and for taking unethical decision for stakeholders. He has been charged with violating section 17(a)1 and 17(a) 2 of Securities Act 1933and section 10(b) of Securities Exchange Act 1934 (SEC Charges Martin Shkreli With Fraud, 2015).

The base with its importance which should be created before initiating audit has been provided in this part.The implication to face in case of  not following the ethical and auditing standard have been discussed. Analysis and research regard the effect of planning before execution of audit have been done for providing the better presentation.

“If I had eight hours to chop a tree, I would spend six in sharpening my axe” the sharpening of the axe in context to auditing and auditors is the role of planning and execution in the audit. The execution can be successful only in case the things are made clear before its execution which can be possible only with strong planning. It is necessary because if planning is not done in an appropriate manner, the goal cannot be reached as the way to it will be full of obstacles (Wong and Millington, 2014).

The audit standard applies to an audit of financial statements in accordance with corporation’s act 2001 and for any other purpose. It is the responsibility of auditor to develop a strategy for engagement of audit plan which includes assessment of important areas, resolve potential errors on a timely basis. If planning is done before execution of audit, the audit is performed in efficient and effective manner. It includes assessing the major areas of the entity, selection of appropriate members. According to ASA, 200 procedures should be performed to continue client relationship. An overall strategy should be prepared according to this SA to identify and explain the scope of the audit. The strategy regarding nature of communication required during the planning stage for proper execution of data and information delivery to the team members (Audit quality – The role of directors and audit committees, 2013).

The Australian auditing standards are to be applied while auditing financial statements of an entity by the auditor. The overall objective of an auditor with its scope is dealt by this ASA. The objective of the audit is to increase the confidence of the user of the report. The same is achieved by giving an opinion regarding the true and fair status of the company in reference to financial statements (Brasel and et.al. 2016). The skills required to perform an audit in an efficient manner are professional judgement and professional scepticism. Professional judgement can be said as knowledge regarding ethical standards of auditing and experience within context to auditing and accounting which will help in taking effective decisions, As audit involves inherent risk and detective risk both, to associate transaction in relation to the risk it is necessary that explanation should be given to whole audit team in planning procedure (Auditing Standard ASA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Australian Auditing Standards, 2013).

The auditor has to conduct an audit in accordance with Australian Accounting Standards. Hence it has to discuss information with the team regarding the relevant standard to the entity(Alzeban and Sawan,2016). If a strong base is created at the planning stage, it is easier to achieve the objective. Hence according to the saying, of the total time available a major part is invested in planning for efficient execution of work and also for accomplishing the objectives of the audit.

References

Hayes, R.M. 2014. Discussion of “Audit committee financial expertise and earnings management: The role of status” by Badolato, Donelson, and Ege (2014). Journal of Accounting and Economics. 58(2).Pp.231-239.

Kannan, Y.H. and et.al. 2014. The impact of CEO and CFO equity incentives on audit scope and perceived risks as revealed through audit fees. Auditing: A Journal of Practice & Theory. 33(2).Pp.111-139.

Lisic, L.L. and et.al. 2015. CEO Power, Internal Control Quality, and Audit Committee Effectiveness in Substance Versus in Form. Contemporary Accounting Research.

Pitt, S.A. 2014. International standards for the professional practice of internal auditing.

William Jr and et.al. 2016. Auditing and Assurance Services: A Systematic Approach. Auditing and Assurance Services: A Systematic Approach.

Ghafran C. and O’Sullivan N. 2013. The governance role of audit committees: reviewing a decade of evidence. International Journal of Management Reviews. 15(4).Pp.381-407.

Thompson, R.M. 2013. A Conceptual Framework of Potential Conflicts with the Role of the Internal Auditor in Enterprise Risk Management. Accounting and Finance Research. 2(3). Pp65.

Tricker, B. 2015. Corporate governance: Principles, policies, and practices. Oxford University Press, USA.

Westphal, J.D. and Zajac, E.J. 2013. A behavioural theory of corporate governance: Explicating the mechanisms of socially situated and socially constituted agency. The Academy of Management Annals. 7(1). Pp.607-661.

William Jr and et.al. 2016. Auditing and Assurance Services: A Systematic Approach. Auditing and Assurance Services: A Systematic Approach.

APPC “Audit Quality in Australia”. (2012). [Online]. Available through <https://www.frc.gov.au/documents/publication/appc-audit-quality-in-australia-2014/>. [Accessed on 13^th September 2016]

Carrier, M.A. and et.al, 2016. Using Antitrust Law to Challenge Turing’s Daraprim Price Increase. Berkeley Technology Law Journal, Forthcoming.

Clarke, C. and Friedman, H.H. 2016. ‘Maximizing Shareholder Value’: A Theory Run Amok. i-Manager’s Journal on Management. 9(4). P.45.

Erkens, D.H. and et.al.2012. Corporate governance in the 2007–2008 financial crisis: Evidence from financial institutions worldwide. Journal of Corporate Finance. 18(2). Pp.389-411.

EVERYTHING YOU KNOW ABOUT MARTIN SHKRELI IS WRONG—OR IS IT?. (2015).[Online]. Available through< https://www.vanityfair.com/news/2015/12/martin-shkreli-pharmaceuticals-ceo-interview>. [Accessed on 18^th September 2016]

SEC Charges Martin Shkreli With Fraud. (2015). [Online]. Available through < https://www.sec.gov/news/pressrelease/2015-282.>. [Accessed on 13^th September 2016].

Alzeban, A. and Sawan, N. 2016. The Relationship between Adherence of Internal Audit with Standards and Audit Fees. Journal of Financial Reporting and Accounting. 14(1).

Brasel, K.R. and et.al. 2016. Risk disclosure is preceding negative outcomes: The effects of reporting critical audit matters on judgments of auditor liability. The Accounting Review.

Wong, R. and Millington, A. 2014. Corporate social disclosures: a user perspective on assurance. Accounting, Auditing & Accountability Journal. 27(5). Pp.863-887.

Audit quality – The role of directors and audit committees. (2013). [Online]. Availablethrough< https://asic.gov.au/regulatory-resources/financial-reporting-and-audit/auditors/audit-quality-the-role-of-directors-and-audit-committees/>. [Accessed on 13^th September 2016]

Auditing Standard ASA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Australian Auditing Standards. (2013). [Online].Available through <https://www.auasb.gov.au/admin/file/content102/c3/Nov13_Compiled_Auditing_Standard_ASA_200.pdf>. [Accessed on 13^th September 2016]