Contemporary Issues in Accounting and Finance - Essay Example

?Contemporary Issues in Accounting and Finance Introduction With the collapse of global corporate giants like WorldCom and Enron, organizations give particular focus to corporate governance principles, which particularly emphasise the importance of statutory auditing. A statutory auditor is a certified external auditor who has the statutory obligation to certify the accountability of the firm’s financial statements in accordance with professional auditing standards (European Commission 2011). In order to ensure stakeholder confidence regarding the transparency of the auditing process, it is necessary to promote the independence of statutory auditors. A recent FEE (Federation of European Accountants) publication states that “an individual’s objectivity must be beyond question when conducting and reporting on a statutory audit” (FEE). This paper will critically evaluate this statement with particular reference given to some fundamental financial/accounting/auditing concepts and external studies. Objectivity of statutory auditors There are many situations where a statutory auditor’s objectivity would be questioned when auditing financial statements of a firm. To illustrate, an auditor faces this challenge while dealing with the valuation of assets. In order to understand this situation clearly, it is necessary to discuss the difference between fair value and historical cost. Under historical cost accounting, assets and liabilities are valued at original acquisition price and any increase or decrease in their market value over the years is not taken into account (Shome 1995, p.135). In contrast, assets and liabilities are valued at the market price in the current date under the fair value accounting method (Wood 2009, p.344). Traditionally, books of accounts were kept at historical costs. However, fair value accounting replaced this conventional accounting practice nearly two decades ago and since then the assets and liabilities are measured at their current value estimates (Ramanna 2013). Today, most of the firms value assets and liabilities at the estimates of their current market value in order to give the stakeholders a detailed view of the financial status of the business. Since dubious assets/liabilities valuation practices have led to many corporate failures over the last decade, it is a challengeable task for auditors to certify the reliability of fair value accounting. Under such circumstances, a statutory auditor’s objectivity is likely to be questioned if he has any specific interest in the firm. Fair value accounting represents the social construction of reality whereby legitimacy, power, and illusions are created. As experts point out, new epistemic criteria have to be created to address the socially constructed reality of fair value accounting. Fair value accounting clearly represents socially constructed reality, and auditors are expected to maintain professional ethics and legitimate practices (Jeppesen & Liempd 2011). In order to verify this socially constructed reality, auditor’s independence has to be specifically promoted. The auditor’s independence can significantly affect the credibility of financial statements (Olagunju 2011). Hence, there is a positive relationship between independence of an auditor and credibility of the financial statement (Ibid). In addition, an auditor’s independence can justify his objectivity to a great extent. The auditor’s independence has two distinct aspects including real independence and perceived independence (Sucher & MacLullich n.d.). Accomplishment of both these aspects is essential to achieve the ultimate goals of auditor’s independence. Real independence can be simply defined as the independence of the auditor or independence of the mind (Palmrose & Saul 2001). More precisely, real independence is related to the state of mind the auditor maintains and how he manages a particular situation. A really independent auditor would make independent decisions even though he is forced to handle a compromising condition by the company’s board of directors. Similarly, the perceived independence makes it vital for the auditor to appear as independent. More clearly, the auditor may not be really independent under certain circumstances and this situation could lead to stakeholders suspecting the credibility of the audit report (Holland & Lane 2008). Hence, the auditor must be independent in appearance so as to add value to the objectivity of the auditor and thereby the reliability of the audit report. In the view of Lindberg and Beck (2004), the perceived independence can make the auditor’s objectivity beyond question. However, the auditor is compelled to lose some level of his independence as part of resolving conflicts (if any) with the company directors. Undoubtedly, accounting plays an inevitable role in finance management. The accounting practice is vital to keep a record of a firm’s cash inflows and cash outflows (Sofat & Hiro 2008, pp.9-10). It is clear that a business cannot sustain many years unless it operates profitability. Therefore, it is essential to evaluate the profitability of a business periodically and this is not possible without applying proper accounting practices. Furthermore, accounting plays a significant role in anticipating future cash flows and thereby managing the available resources most productively. Different organisations follow different business models and therefore accounting practices have to be thoughtfully designed to meet the needs of the business (Financial reporting faculty). While fair and professional accounting practices can contribute to smooth flow of business, fraudulent accounting practices would even end up in business failure. For instance, accounting fraud led to the failure of Enron, which was one of the most popular and largest corporate scandals over the last decade. Considering the significance of fair and professional accounting practices, it is particularly vital to ensure the credibility of auditing. Today, people are increasingly health conscious and aware of the importance of sustainable development. Therefore, corporations cannot exist in the market for a long time unless they give specific focus to the concept of corporate social responsibility. As a result, today corporations set aside a notable portion of their revenues on environmental protection and social development activities (Tuodolo n, d,). Evidently, the major goal of corporate social responsibility is to meet public interest and to keep them loyal to the company; this favourable situation in turn would assist the management to promote its self interest. Today, most of the large organizations prepare sustainability report along with their annual report at the end of the accounting period. Hence, it is the duty of the auditor to ensure that the spending on corporate social responsibility was in best interests of the company. In order to have a fair view of this fund utilization, the auditor’s objectivity must necessarily be beyond question. Nowadays, accounting itself is in crisis due to misleading accounting practices and growing complexity of financial transactions. As discussed already, asset valuation has become a challengeable task for accountants and hence their judgement also tends to flaw. Therefore, it is really difficult for an auditor to certify a true and fair view of the state of affairs of the organisation. In other words, an auditor needs to take extremely huge efforts to evaluate the firm’s financial statements effectively in the modern business era. Here, the situation will be worse if the auditor’s objectivity is questioned. As professionals like Ebimobowei (2011) point out, non-audit services can have a negative influence on auditor’s objectivity. In recent years, non-audit services provided by audit firms have been notably increased, and this situation challenges an auditor’s objectivity. Audit fees can unfairly influence auditor’s independence and objectivity, and ultimately the evaluation of the firm’s performance (Bazerman et al 1997). Sometimes auditors would leave suspicious transactions unnoticed because they do not want to hurt the interests of their clients and thus lose an auditing assignment. According to Siegel and McGrath(2003), many auditors are reluctant to self review their findings and previous audit assignments due to many reasons. Evidently, such dubious practices would adversely affect auditors’ professional integrity and hence they will be suspicious in the eyes of stakeholders and general public. Some other threats challenging auditor’s independence and objectivity include familiarity threat, intimidation threat, advocacy threat, and management threat (The auditing practices board). Despite all such issues, auditing is the only potential way to measure accounting quality and to evaluate the accuracy and reliability of financial statements. In addition, the current world is struggling with a sequence of issues like banking crisis and regulation crisis, which in turn can have serious impacts on the business environment. Furthermore, the growing fraudulent activities in business operations and the complex nature of modern business transactions necessitate perfect auditing. In this situation, auditors must not maintain unhealthy relationship with their clients. And, they must not compromise interest conflicts for the sake of their personal financial interests. Such ethical and professional auditing practices would contribute to the auditor’s objectivity and audit firm’s reputation. Conclusion From the above discussion, it is clear that auditor’s objectivity must be justified in order to ensure the credibility of the financial statements and to meet the interests of stakeholders. Auditor’s independence is the best way to promote his objectivity because an independent auditor can make decisions despite the pressures from the client. Modern business transactions are getting increasingly complex, and the processes like asset valuation have become a cumbersome task for accountants. In this situation, auditor’s objectivity is likely to be questioned. However, combined influence of reality independence and perceived independence can make auditor accountable for his decisions, and therefore he can successfully defend his objectivity. Similarly, auditors must try to ensure the authenticity of non-audit services they provide although they are not required to do so legally. In short, the auditor must completely adhere to professional as well as ethical standards proposed by competitive bodies. References The auditing practices board. Non audit services provided to audited entities. [online] available at [accessed 14 June 2013]. Bazerman, M. H et al. (1997) ‘Opinion: The impossibility of auditor independence”. Slogan Management Review, 38 (4): 88-94. Ebimobowei, A. (2011) “Non-Audit Services and the Impairment of Auditors’ Independence: A Further Examination”. Pakistan Journal of Social Sciences, 8 (2): 100-107. European Commission. (2011) Community research. [online] available at [accessed 14 June 2013] Financial reporting faculty. Business models in accounting. 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