Non-financial Matters to Consider before Accepting the Audit - Assignment Example

Question 1

Client acceptance is the initial stage of any audit process that is carried out by any audit firm. It is one of the tedious processes but pertinent to the auditor as it enables the auditor to understand the reputation of the company, directors, management and key stakeholders. In making such process, the auditor is required to take into consideration the following factors:

The auditor should consider the reason why the client switches the auditor, the client’s attitude towards the management and exposure risks, the attitude towards the internal control systems. Additionally, the willingness of the client to allow the respective auditor to access the information required to make an opinion and finally the willingness and attitude of the client to pay the fair amount for the respective audit work.

Significant standards demand the audit firms establish quality control procedures in determination of whether the acceptance should be accepted or not. The audit firm through auditors should determine its independence both in mind and physically about the client, make an evaluation of its ability to sufficiently service the company, integrity management evaluation and the communication with the prior auditor after the consent of the client to discuss confidential matters has been made.

Once the aforementioned steps have been taken the auditor and client who is the company come to an agreement on several matters as the limitations and the nature of particular services that should be offered, the anticipated cooperation of the company personnel, the anticipated dates when the audit should start and end and the audit fee that should be charged.

The auditor performs the following procedures that are required by audit standards:

Obtaining and review of financial information: the first procedure that the auditor makes is to go to the client’s records and take some annual reports and corporation tax returns. The annual reports aid the auditor in making both technical and fundamental analysis of the company (Golden & Golden, 2011). Additionally, the company performance through common-size analysis, trend analysis, and ratio analysis are made to determine the anticipated performance of the company in future.

Evaluation of the integrity of the client management: This next procedure that is carried out by the auditor to determine the honesty of the management and moral principles that are adhered to by the management. This enables the auditor to understand some of the inherent risks associated with the client.

Communication: this process involves seeking permission from the client management to have a discussion o the auditor with the prior auditor on confidential matters like management integrity, auditing issues, and any disagreements as far as accounting is concerned.

Independence determination: the auditor determines the independence of the audit firm and the client. In this process, matters of undue influence, self-interest, and familiarity threats are critically evaluated.

Third party inquiry: the auditor extends the collection of information concerning the company from third parties such as credit agencies, banks, and attorneys. The collected information helps in gaining more insight of company which might not be available in the company.

Understanding the client the respective industry: the auditor obtains the information about the client the industry through reviewing the industry publications and on-site tour. Also, the auditor determines if the audit firm is required to obtain some technical knowledge and skills to perform the audit process effectively and sufficiently.

Consideration of special circumstances: the auditor at this stage considers whether the client has special or unusual that might be special attention by the audit. More so, consideration of the going concern and litigation issues are also considered.

Analytical procedure: analytical procedures are performed to get full understand of the industry and prospective client.

Business evaluation: the auditor evaluates the business risks and opportunities of the client and the audit firm.

Question 3

Non-financial matters to consider before accepting the audit

The important and meaning non-financial matters to be considered are as listed below:

High rate of changing auditors: This creates a very high challenge because the new auditor is not sure where the new contract to be created will last to sustain the objective for the audit as it may terminate before the period of contract ends. The Bernes and Fisher’s LPI should find out why Ocean Manufacturing has terminating contract of the previous auditors often in a few years.

The computer system which is complicated: The newly introduced computer system have certain problems cited in the case above, the inadequate controls about the new computer system may leader to an auditor taking more time than required. The auditor may also find it difficult extract information hence compromise the opinion reached upon by the auditor and also increases auditors detection and control risks, therefore, the fines and penalties of making a wrong opinion to the Ocean Manufacturing may be very high.

The reluctance by the client to allow the new auditor to speak to the previous auditor: Unusual in the event where the client is hesitant or not willing to give permission for the current auditor to consult to the outgoing auditor then that’s a red flag to be noted by the new auditor. It probes a new auditor to investigate an integrity issue about the management of the company.

Unlawful gambling act: It is a serious matter as it speaks loudly about the integrity of management. The vice president of finance did the wrong thing, and the auditor’s general judgment should be that there are high chances of the same manager performing acts of negligence.

Manipulation of the financial statements: It is noted from the case study that management aggressively manipulate the financial statement at year end accruals and revenue recognition, so that get low interest from the creditors. This fraudulent act is likely to happen when the Ocean Manufacturing is in the process of offering its new shares in the stock exchange market to attract investors. It challenges the integrity of the management. Hence, an auditor may get unreliable information in his audit in an attempt to form an opinion.

Adversarial relation with the previous auditor: From the case study above is evident that the relationship with the previous auditor is negative. This is a serious issue because it let to termination of the contract. The outgoing auditor laments that the audit fee was too law while the management of Ocean Manufacturing argues that auditor had no enough knowledge to audit the firm.

High management turnover: The changing of the key personnel in ocean manufacturing is very often and creates a very great problem for an auditor to get the correct in information as new management understands little about internal control system

Initial public offering: It is the first time Ocean Manufacturing is trading its shares in the stock market which will increase the number of stakeholders the Bernes and Fishers partnership as an auditor since audited financial statements are relied upon by the investors in the stock market hence increasing the auditor’s risk.

However there are good reasons why Berness and Fisher’s partnership should consider accepting the audit .it is clear that Ocean Manufacturing has good record when performing in small appliances industry. It has also introduced new computer system that will help in improving its business.

Question 4

a.

The provision of both auditing and information technology by the same audit firm accrues some pros and cons to both the client and audit firm respectively. A great deal of efficiency is normally gained by the audit firm for the provision of both services as the firm can leverage the auditor with a deep understanding of the company (client) and the information system by providing these additional services. The audit firms develop expertise in certain company fields and other types of consultants.

For a number of public companies that adhere to the SOX Act of 2002, the auditors are not allowed to provide such consulting services for their respective clients. It is noted that the financial information and system design implementation are not consulting services that are approved by the SOX Act. The ocean company is a private company and is subject to AICPA until it executes its plans to initial public offering. Pursuant to AICPA code of conduct, the system implementation is an approved service to be provided to clients under some conditions. Though CPA firm can at some point provide assistance to the implementation of computer software, it cannot design the financial information system by either changing or create principal computer system. Additionally, the provision of both the audit and information system implementation impairs the professional principle of objectivity due to some undue influence with the client.

The following are some of the disadvantages of provision of auditing and information system design implementation:

Biased audits: provision of both services results to the provision of biased audits incase their clients threaten them for taking the auditing to another audit firm unless they get a good audit. The more profitable the audit process and consulting services, the higher the chances of an impaired report. In many cases, the audit companies can even feel more threatened by loosing high returns from future audit contracts.

Regulatory dilemma: provision of non-audit services does not guarantee the accuracy of the financial reports and therefore, auditors should be banned from involving themselves in services that may impair their audit objectivity.

b.

Pursuant to the code of professional conduct Rule 101 of the AICPA, materiality is not considered in the case of direct financial interest. No direct financial interest on the auditor part is tolerated. In case the financial interest is indirect as in the case of venture capital fund investment, materiality is greatly considered (AICPA, 2004). It is clear from the case study that the indirect financial interest in a partner is immaterial and do not violate the AICPA 101 rule.

5 a

Reasons for Bernes and Fisher’s acceptance of the client

The Ocean Manufacturing will provide the auditor with an opportunity to offer non-audit services such consultancy and installation of the new IT system hence enabling an auditor to earn extra income.

The offering of the shares in the stock market by the client which are audited by the Bernes and Fisher’s will make this auditor known to other client and hence attract the new market for audit.

The new IT system adopted by the client will make the work of auditor easy if the few areas of failure are corrected therefore the auditor will simply use the Computer Aided Audit Techniques to audit the clients work with high levels of accuracy.

Since the Ocean and Manufacturing Company has been performing so well in the appliances industry, there’s high expectation to perform well in the future.

Reasons against auditor’s acceptance

Frequent change of managers: The Ocean and Fisher’s company often changes managers hence very difficult for the new auditor to get full information specially about monitoring of the internal control system since they are also new in the industry.

Lack of independence: Employees of the Ocean Manufacturing own shares in Joint Investment Fund whereby Joint Investment owns 56,000 shares of Ocean Limited .this indicates that the independence of the auditor is compromised. The provision of non-audit services such as the installation of IT system and provision consultancy services is a threat to self-review.

Manipulation Financial statements by the managers: The accruals and receivables at the end the end of the financial period are intentionally changed by the managers to attract low interest from the creditors thus challenging the creditability of the information to be audited by the auditor.

Poor working of the newly introduced IT system which makes it tough for an auditor to track the trail of the revenues and the accruals manipulated by the management at the end of the year period.

Low return on investment: The profit recorded by the ocean manufacturing company is very low as compared to the industry hence the ability to the audit fee, tax, interest rate and the dividends is very devastating. This clearly indicates that the competition in the industry is very high thus, therefore, has been low sales with may be a high investment in the advertising expenses.

The high rate of changing the auditors: The frequent change of auditors by Ocean Manufacturing is the test of the integrity of the management indicating the relationship with the previous auditors has been very poor.

Illegal gambling: The act of the financial officer of unlawful gambling creates a very great risk to the auditor as it shows that the vice presidents of finance will other mistakes involving same mistakes in future.

Initial public offering of shares in the stock market: This exposes the auditor the new risks since the investors will rely on the financial statements audited by Barnes and Fishers.

From the above-stated risks, I would advise the Barnes, and the Fisher’s not to accept the client.

5 b

Audit Risk Areas

a. Control risk: This is a risk that will make an auditor to arrive at wrong opinion due to inadequate control system of the client (Boeckman et al, 2016). The internal control system is lacking. This means that for an auditor to arrive at the evidence, he will be required to carry out substantive tests which will be time-consuming.

b. Problems with the recent IT computer system: Some trail of data is missing to get this data; the auditor has traced the information before and after the breakdown of the use of the backup system to get the required information. The auditor may also communicate to the outgoing auditor to access the working papers so as to ascertain the lost information.

c. With the recent development of the new IT system, three’s high material misstatement in items such as inventory, billing, salary needs more subjective analytical testing to arrive at the audit evidence which is additional reliable to help in making the right opinion.

d. Low-profit margin recorded in the recent period should be an area of attention by the auditor to seek the cause of the trend. It may be due to inflated expenses or high competition hence an auditor should find out the through enquiry with the management.

e. Poor collection of the receivables: In about the industry indicates that the receivables are very low, and the auditor has to use the substantive tests and use external evidence to verify the figures indicated.

f. A large number of transactions to be audited. Many transactions to be handled by an auditor will lead to an auditor using large samples in auditing, therefore, creating a high risk of reaching to an inappropriate opinion.