ANZ Inherent Risk - Case Study Example

Student’s Name: Instructor’s Name: Course Code & Name: Date of Submission: 2,197 WORDS Question 1: ANZ Inherent Risk ANZ is faced by four major inherent risks that might directly or indirect affect the position of the company negatively if not taken care off during auditing (risk based audit). These risks include unethical lending, change of management and lay off, inaccurate ATM services and poor organization culture. The four risks are components of internal control system. According to ASA 200, inherent risk represent risk that the account balances of transactions could be materially misstated due to assumption that there was no internal control system. Inherent risk Reason for potential material misstatement 1. Unethical lending There are many issues that face ANZ banking because of its lending. The bank is accused of lending of over $2.3 billion for gas and coal export project (Transition South Barwon, 2013). The bank also made lending to controversial Cambodian sugar plantation (facing human right and environmental issues) (plantation & flooding, 2014). The bank is liable to the lending it makes according to the treaty signed. -Lack of due diligence in lending is profound in ANZ which poses a great challenge in bank performance which leads to serious material misstatement due to increased credit risk (Chartered Institute of Internal Auditors, 2014). Credit risk creates potential risk of materiality to ANZ financial reports due to various aspects of Bank’s due diligence and accounting for loans. The risk might have been both due to management and external factors in due diligence procedures in loan advancement. ANZ revenue greatly relies on selling loans in both domestic and foreign market thus high credit risk adversely affects Bank’s financial position. The major contributing factor to credit risk is instant where bank has advanced large portion to nonperforming sector of economy, which results to increase in nonperforming loans. The result of such a move lead to huge losses that might lure management in using other methods such as window dressing in order to avoid raising concern from shareholders of the company or other stakeholders like regulatory bodies (Chartered Institute of Internal Auditors, 2014). -Window dressing is instance where bank’s management conceals actual financial position of the company by improving it for example writing off loans as paid but in real sense they are not paid. Credit risk resulting from defaulting customers poses potential material misstatement of financial reports by management in order to impress the users of financial report, but in reality the bank is struggling financially due to losses and inadequate cash to efficiently run the business (Andreassen, 2009).. -In addition, the bank lending to the two projects might lead to nonperforming loans due to borrowers’ default which poses more possibility of bank’s management to alter financial reports. -However, the bank might win the case and avoid huge fines and penalties. It is still not cleared from bad public image created by the scene. The management will by all means minimize its impact by window dressing or creative accounting in order to maintain its investor’s confidence (Andreassen, 2009).. 2. Change of management and layoff ANZ Bank mad replacement of Australian chief executive officer where it replaced Phil Chronican with Mark Whelan (ANZ, 2015). The bank also had 140 job downsize which contributes to inherent risk associated to the bank(ABC news, 2015) The change of management and layoff might impact the management attitude and integrity negatively depending on how it was undertaken which is poses great threat to ANZ in the following way; -Lack of integrity due to fear of job security results to increased operational risk due to complacency and fraud by management (Andreassen, 2009).. Directors are supposed to act for the best interest of shareholders of the company according to companies act since they are entrusted to manage their wealth. Therefore, directors might be tempted to defraud ANZ shareholders due to powers accorded and in order to conceal their deeds, directors’ practice creative accounting and window dressing of financial reports. These practice results to a serious material misstatement of financial reports that might lead to bankruptcy of the bank if not detected early. -Attitude change of management due to changes in leadership position and failure of the leader to address their issues might result to material misstatement of financial statement (Kryvych, n.d.). For example, failure of chief executive officer to address poor working condition and remuneration, might lead to high resistance to change and complacency in carrying out their duties and in order to compensate for the poor performance, they alter financial reports. Thus motivation and attitude of management results to operation risk, which is avenue of potential material misstatement of financial statement. 3. Public complains on bank Services According to ProductReview.com.au (2015) many customers have complained of Inaccurate ATM. In addition, ANZ stolen ATM machine at Gnowangerup sends a negative signal to customers too (PerthNow, 2014). Most of the bank customers are withdrawing due to bank’s lack of concern in its lending since it is profit centric than customer centric. -Public is the major customer base for ANZ bank. Therefore, bad public image due to presence in media for wrong things and poor customer service delivery service result to customer withdrawals (Kryvych, n.d.). The bank also loses on new customers’ account opening due to bad reputation. The decrease in ANZ customer base might tempt the management to alter company financial statement in order to hide losses incurred to avoid sending bad signals to investors. In addition, allegation of ATM inaccuracy poses a great threat to company reputation and management fraud. The customer may close their accounts due to fear of whole bank information system being outdated. The customer notion may extend to banks server crushing or hacking of banks information system due to software bugs. -The failure of bank information system leads to lose of data that it is required in generation of financial statements (Andreassen, 2009). Therefore, management will be forced to estimate values in preparation of financial reports. Estimation of values results to serious financial misstatement since values obtained are subject to personal judgment, not real figures. Thus financial reports fail to provide true and fair position. Information system failure might result to losses due to lack of business thus luring management to carryout creative accounting to conceal their inefficiencies. 4. Poor organizational culture Compared to 2013, there has been increase in dismissal and suspension on breach of ANZ policies and procedures in 2014 which poses a great threat to the bank. In addition, ANZ workers case against the Bank over salary increment and working condition (Quilliam, 2014). The bank is also accused of threat to discipline pregnant worker over pelvic exam and case is in the court (Toscano, 2014). -Poor organization culture can pose great threat to internal control system which is important component in minimization of material misstatement in financial statements. - Potential material misstatement for ANZ might arise in financial reporting of ANZ due to lack of compliance internal control system by management. Failure to comply with internal control system results to business failure or inefficiency that will force management to alter reports in order to prevent company stakeholders from raising concern on bank’s financial performance and position (Andreassen, 2009). Common example of noncompliance to internal control system of bank is overtrading on securities and derivative market. Overtrading by bank’s Chief Financial Officer might result to huge losses that might result to banks closure. Therefore, compliance risk can cause serious material misstatement of ANZ financial reports by management. -In addition, poor organization culture might result to noncompliance by management on banking standards set out in Basel framework by management in its operation might result to material misstatement that can cause bank’s failure. The major areas of compliance are on minimum capital requirement, credit risk requirements and liquidity requirement (Momper, n.d.). For example, failure to maintain liquidity ratio within Basel requirement might lead to failure of ANZ to meet unexpected cash demand by customers holding demand deposit accounts. These might call for regulatory and government intervention that might result to business closure. Therefore, management may alter financial statement to hide their mistakes in order to avoid penalties. -Poor organization culture can attract overtrading might subject ANZ to potential material misstatement due to management move to conceal huge losses. The losses might be because of unfavorable changes in prices of financial instrument traded i.e. loss due to decrease in future spot rate on a huge forward contract entered by senior management with anticipation of positive change in future exchange rate (Wong, 2006). The material misstatement can mislead users of financial reports thus failure to put in alternative measures to avoid further losses. For example, the common rogue trading scandal is Swiss bank UBS that lost approximately 2billion dollars (Kryvych, n.d.). The loss was as a result of overtrading beyond the set limits which was conceal by poor internal control system. The same scenario can apply to ANZ because poor internal control system might result to rogue trading that is hidden by creatively altering financial reports. Therefore, market risk can contribute deliberate material misstatement of financial reports to hide management inefficiencies. - Adverse consequence of noncompliance of laws and regulation, banking industry standards and internal control system lures management to alter financial reports in order to avoid such consequence (Wong, 2006). These result to massive material misstatement of financial reports, which misleads users. Question 2: Risk Based Audit of ANZ Inherent Risk According to ASA 200, ANZ financial statement preparation is subject to high inherent risk due to major risk facing the bank (Momper, n.d.). Exposure of bank to unethical lending, change of management and lay off, inaccurate ATM services and poor organization culture calls for extensive and comprehensive audit on all the evidence and documentation, in order to come up with reasonable audit opinion. Insufficient audit procedure might result to inaccurate recommendation and opinion. In order to arrive at conclusion whether to rely on internal control system or not, auditor can administer questionnaires to ANZ staff in order to certify existence by administering internal control questionnaire (ICQ) and administering internal control evaluation questionnaire (ICEQ) to determine its strength (Momper, n.d.). Auditor needs to test adequacy of internal control system to ensure that the system can detect errors efficiently and efficiently. According to ASA 315, it requires auditor to determine company internal control system to be adequate enough to detect and prevent fraud. Complain on poor customer delivery should be major area of concern where auditor need to sample out customer complaints and ask for the feedback from management (Andreassen, 2009). Further, auditor can perform test on ATM randomly in order to ensure they are fixed. Lastly, the auditor must enquire from management on how it treated the more or less money that resulted from inaccurate ATM to ensure that there was no estimation in preparation of financial statements. In addition, auditor need to carryout analytical procedures in order to verify that the amount in the financial statement is properly arrived at (Lave & Romer, 1983). Analytical procedures entails gross margin during planning and completion stages. The auditor can estimate ending balance and compare recorded balance with the predicted balance in order to find deviation. If huge deviation exists, auditor will be forced to carry substantive test in order to find out the item that caused such deviation in ANZ ending balance. The bank involvement on unethical leading will require the auditor to sample customers (borrowers) and verifying that due procedure was followed in advancing them loan and evidence on regular payment of obligation (Lave & Romer, 1983). In addition, auditor can verify existence, conditions and value of the security used for huge secured loans in order to ensure future ethical concern from public, government and non-governmental agencies. Auditor will be required to carry compliance test on internal policies and procedure with regard to adherence to laws, regulation and banking standards. The level of risk dictates planning of audit since high compliance risk from previous audit attract comprehensive audit of ANZ internal control system in order to determine if management implemented the previously recommended internal policies and procedures. In addition, comprehensive audit will ensure that further internal policies and procedures will be recommended by auditor by identify gaps in existing internal control system. The auditor must make sure that ANZ has documented internal control system which is effective and efficient or provide areas of weakness and recommendation. The evidence that auditor requires to obtain on compliance risk includes review of penalties imposed to the bank, existing legal suit and regulatory warning from regulatory bodies (Andreassen, 2009). The auditor seeks additional information from bank’s lawyer since he is conversant with legal and compliance issues related to the company. Auditor will be required to observe how management carry out its operation by visiting premises prior a notice or without in order to ensure management adhere to the existing internal control. Auditor might carry out substantive test in order to establish integrity and accounting knowledge and skills of the accounting department. Substantive test include confirmation of customer balances, comparison of recorded values in original books of entry and transferred amount to the reported financial statement (Lave & Romer, 1983). The level of reliance of available evidence is then used in developing probability to the used in arriving at overall inherent risk. ANZ Audit Plan Testing of Internal control system Substantive Test Analytical Procedures Compliance test High High Moderate High Reference; Andreassen, S. (2009). Basics of accounting for lawyers, 2009. New York, N.Y.: Practising Law Institute. ANZ, (2015). ANZ Report 2015. [online] Anz.com. Available at: https://www.anz.com/aus/AnnualReport/CFOReport.asp?pageno=7 [Accessed 28 Apr. 2015]. Chartered Institute of Internal Auditors, (2014). Risk based internal auditing | Risk management | Resources | IIA. [online] Iia.org.uk. Available at: https://www.iia.org.uk/resources/risk-management/risk-based-internal-auditing/ [Accessed 28 Apr. 2015]. Kryvych, Y. (n.d.). Banks Risk Management. SSRN Journal. Lave, L. and Romer, T. (1983). Specifying Risk Goals: Inherent Problems with Democratic Institutions. Risk Analysis, 3(3), pp.217-227. Momper, S. (n.d.). Inherent Negatives: Managing Risk and Reputation, Reconsidering Corporate Social Responsibility. SSRN Journal. PerthNow, (2014). Thieves use backhoe to dig out ATM from ANZ Bank in Gnowangerup. [online] PerthNow. Available at: http://www.perthnow.com.au/news/western-australia/thieves-use-backhoe-to-dig-out-atm-from-anz-bank-in-gnowangerup/story-fnhocxo3-1227164483936 [Accessed 1 May 2015]. Plantation, A. and flooding, R. (2014). ANZ under fire for loans to controversial Cambodian sugar plantation. [online] The Sydney Morning Herald. Available at: http://www.smh.com.au/national/anz-under-fire-for-loans-to-controversial-cambodian-sugar-plantation-20140122-3196z.html [Accessed 1 May 2015]. ProductReview.com.au, (2015). ANZ. [online] ProductReview.com.au. Available at: http://www.productreview.com.au/p/anz.html [Accessed 1 May 2015]. Quilliam, R. (2014). ANZ workers resume strike action - Business - NZ Herald News. [online] The New Zealand Herald. Available at: http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11347653 [Accessed 1 May 2015]. Toscano, N. (2014). ANZ threatened to discipline pregnant worker over pelvic exam, court told. [online] The Age. Available at: http://www.theage.com.au/victoria/anz-threatened-to-discipline-pregnant-worker-over-pelvic-exam-court-told-20140807-101m53.html [Accessed 1 May 2015]. Transition South Barwon, (2013). ANZ and divestment from fossil fuels. [online] Transition South Barwon Inc. Available at: http://transitionsouthbarwon.groupsite.com/discussion/topics/618921/messages [Accessed 1 May 2015]. Wong, J. (2006). Auditing and assurance handbook 2006. [French's Forest, NSW]: Pearson Education Australia for CPA Australia. Read More