The key aim of the given exercise is to identify the various audit independence threat that potentially arise on account of the various conversations that are highlighted below.
The CEO of LTH is Chris who conveys to the audit manager that board has expressed intention of appointing CJI as the auditor but the same would depend on the audit partner willing to cooperate with the company and delivering a promotional speech for enhancing the overall investor interest. Such an activity is not permissible for a member as it leads to threat of advocacy as defined in s. 200(6), APES 110. It is recommended to avoid all involvement of promotional stints as it can heavily neutralize the perceived independence that outsiders regard with the external auditors. In the current times, when the professional is under threat of protecting interests of the management, such a threat is material and requires effective safeguards (APES, 2010).
The CEO expresses that the audit services have been quite satisfactory and in a bid to strengthen the relationship offers a material gift in the form of a fully sponsored holiday package of 14 days on the expense of the client firm. Accepting gifts of so much monetary value is not permissible for the members as it leads to familiarity threat as defined in s.200(7), APES 110. The members must accept only gifts of only token amount as appreciation of their work. Higher denominations gift can trigger compromises in objective standards of evaluation and hence poses a material threat requiring effective safeguards (APES, 2010).
As Michael is appraised of his addition to the audit team, he remarks that his addition would be quite helpful for the team since his father was functioning in the position of Financial Controller at LTH. Continuation of Michael in the audit team would lead to Familiarity threat as defined in s. 200(7), APES 110. It is possible that Michael is caught is precariously position where the personal and professional interests may confront each other resulting in compromised objectivity and integrity on part of Michael during the audit process. Hence, due to the threat being material, it is essential that adequate safeguard need to be implemented(CPA, 2013).
As Annette is appraised of her addition to the audit team, she remarks that due to her temporary employment with LTH, she is confident that audit at LTH would not be time consuming and provide an opportunity for her to catch up with ex-colleagues. Continuation of Annette on the audit team would lead to namely two threats i.e. threat of self review (defined in s. 200(5)) and threat of familiarity (defined in s. 200(7)). Threat of self review arises on account of the nature of services provided where Annette had active involvement in the preparation of boos of account currently under audit and thus, it is quite possible to assume your own work as correct thus adding to the audit risk. Besides, considering her recent employment she is on friendly terms with officials at LTH which may adversely impact objectivity and hence auditor independence would be materially impacted which warrants the need of prudent safeguards (CPA, 2013).
In light of the threats to independence of auditors that have been outlined above, the following safeguards would be useful.
Safeguard @ CJI– CJI should put in place a policy which is based on the ethical principles highlighted in APES 110 and one of the aspect that these should mention is non-involvement in promotional activity for the client (Leung, Coram and Cooper, 2012).
Safeguard @ LTH – The selection process of the auditor(external) should be transparent and should be based on sound corporate governance policies which safeguards the interests of the minority investors (Arens et. al., 2013).
Safeguard @ CJI – CJI should put in place a policy which is based on the ethical principles highlighted in APES 110 and one of the aspects that these should mention is not accepting any gifts greater than $ 100 received from audit client or representative (Caanz, 2016).
Safeguard @ LTH– As part of the relevant corporate governance framework, it is imperative that interactions with external auditor should be formal and must not threaten the perceived or actual independence which would defeat the purpose of audit (Gay & Simnett, 2012).
Safeguard @ CJI – CJI must have the policy whereby any new recruit must furnish all details of the immediate family members in terms of their employment engagements with requisite details. This may be required to be updated in the firm database when a family member changes employment. Also, as an additional safeguard, before starting working for the client, whenever a member is made part of any audit team, an undertaking may be desired stated that no relative (near or distant) is or has occupied any position of employment (permanent or temporary) during the last two years (Caanz, 2016).
Safeguard @ CJI – CJI must have the policy whereby any new recruit must furnish all details of their employment engagements with requisite details. Also, as an additional safeguard, before starting working for the client, whenever a member is made part of any audit team, an undertaking may be desired stated that the member has not occupied any position of employment (permanent or temporary) anytime in the past (Leung, Coram and Cooper, 2012).
The risks identified for the given business as an audit senior as described below.
MSL has a global supply chain whereby it sources the spare parts and equipments required from foreign based suppliers located in distant countries such as China, Europe etc. The result is that there is a time lag between placing the orders and getting these delivered. Thus, it is essential for the company to be accurate in the estimates as higher inventory levels would reduce the overall profits by increasing the inventory carrying cost along with risk of theft and obsolescence. Further, it would also result in funds being tied which otherwise could have had an alternate use, On the other hand, lower inventory could leadto delayed services to client resulting in higher dissatisfaction and potential legal claims for damages in certain cases (Arens et. al., 2013).
Due to the purchase agreements that MSL has enacted, it would be obligatory on the company to offtake the spare part and equipment supplies from the suppliers at a certain rate and also would be required to make payments in due credit period extended by the suppliers. However, in case of falling commodity prices, the mining companies would experience a slowdown which would adversely impact business revenues while leading to a building inventory which could lead to cash crunch provided such situation continues for long. (Caanz, 2016).
inherent Risk – Considering that there are a plethora of variables involved in getting the demand estimates correct, it is quite possible that this is a business risk which is naturally present and cannot be completely eradicated.
Control Risk – As the lead time of shipping related with equipments and spare parts is high, the control risk is high as this period cannot be shortened which tend to limit the ability of the company to avoid financial implications in this regard.
The accounts that are impacted are as follows (Leung, Coram and Cooper, 2012).
Inherent Risk – Considering that the customers are in a cyclic business where demand patterns are also cyclic, it is an aspect of business that is intuitively present in MSL’s business and results in higher inherent risk.
Control Risk- As there are no substitute customers to which the company can cater the products and services to, thus, there is high degree of control risk as it becomes difficult to do much on the part of the company.
The accounts that are impacted are as follows (Gay & Simnett, 2012).
References
APES (2010), APES 110 Code of Ethics for Professional Accountants, APESB Website, Retrieved on May 02, 2017 from https://www.apesb.org.au/uploads/standards/apesb_standards/standard1.pdf
Arens, A., Best, P., Shailer, G. & Fiedler,I. (2013). Auditing, Assurance Services and Ethics in Australia (2nd ed.), Sydney: Pearson Australia
Caanz, S. (2016), Auditing And Assurance Handbook 2016 Australia (3rd ed.), Sydney: John Wiley &Sons
CPA (2013), Independence Guide, CPA Website, Retrieved on May 02, 2017 from https://www.cpaaustralia.com.au/~/media/corporate/allfiles/document/professional-resources/auditing-assurance/independence-guide.pdf?la=en
Gay, G. & Simnett, R. (2012), Auditing and Assurance Services in Australia (5th ed.), Sydney: McGraw-Hill Education
Leung, P., Coram, P. & Cooper, B.J. (2012), Modern Auditing and Assurance Services (4th ed.), New York: John Wiley and Sons
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