ACCT6006 Auditing Theory and Practice

You are an audit manager with Clarke & Johnson (CJI). For the past years CJ has been the auditor of luxury Travel Holidays LTD (LTH), a travel company. Geoff, the audit partner, has asked you the to contact Chris, LTH’s CEO, with a view to CJ being re-engaged as the auditor for the upcoming audit of the 30 June 2015 financial report. Geoff has also indicated that intends to allocate Michael, a first-year accountant, and Annette, an accountant in CJ’s tax advisory department, to the LTH audit for the first time. Geoff suggested that you discuss the audit with each of these staff, with a view to identifying any independence issues. You held talks with Chris, Michael and Annette of these conversations were as follows:

Conversation with Chris, situation 1 Chris stated: ‘The board of directors were impressed with last year’s audit and would like to propose reappointing CJ as the auditor of the 30 June 2015 financial report audit. The board would also like to invite Geoff to give a speech about LTH at the next travel agency seminar, to assist in promoting LTH’s business to attract more investors. I understand that this is outside CJ’s normal practice; however, the board expressed the view that it will be very difficult for LTH to continue any business engagements with CJ should Geoff refuse to provide such assistance’.

2. Conversation with Chris, situation 2 Chris stated: ‘ To express our sincerity towards CJ and Geoff, and to maintain the good relationship in anticipation of another smooth audit for 2015, LTH would like to present a complimentary 14-day holiday package voucher for four people to the Greek isles for both Geoff’s and your family. All expenses, including accommodation and travelling cost, will be paid by LTH’.
3. Conversation with Michael Michael stated: ‘I am very excited to be part of the audit team. I believe that I will be a valuable asset to the team, as my dad is LTH’s financial controller. He is responsible for the preparation of LTH’s financial report.’
4. Conversation with Annette Annette stated: ‘I am glad that I have been allocated to this year’s LTH’s audit team. It’s going to be a very efficient audit this year! I was on a temporary assignment at LTH’s just a month ago, helping LTH with its tax calculations and preparing accounting entries that will be reflected in the 30 June 2015 financial report, so I don’t think there will be much audit work required around the tax accounts. It will be great to catch up with everybody at LTH again, as they are so easy to work with.’

Required: (a) For each situation, identify and evaluate any threats in relation to auditor independence

(b) Identify any safeguards to those threats identified above

You are an audit senior with Crampton and Hasaad and you are planning the audit of Mining supplies LTD (MSL) for the year ended 30 June 2015. MSL sells mining equipment and spare parts to mining companies across Australia. MSL has operational centres in Perth, Newcastle, and Mt. Isa. Each operational centre warehouses the equipment and spare parts and provides sales and maintenance services. MSL’s head office is located in Melbourne where finance, IT and other corporate services are provided.

MSL has equipment purchase order contracts with a number of manufacturing suppliers based in Europe, Us and China. These manufactures build the specialised, made- to-order equipment and spare parts and ship them to MSL’s operational centres. Each item of equipment purchased by a customer comes with a two-year spare parts and labour warranty from MSL. The warranty entitles the customer to a maximum of one free maintenance service per year during the warranty period.

Depending on the type of equipment and customer’s location, a maintenance service can take between one day and one week. MSL uses contracted mobile mechanics who travel to the customer’s location to carry out all maintenance services. Some services require the mechanic to travel long distances, due to the remote locations. Any maintenance services that are inside that are outside the warranty conditions are billed to the customer. The billing covers a daily labour rate for the mechanic’s time, any parts replaced and reimbursement for travel, accommodation and living expenses incurred by the mechanic.

Required:

(a) In relation to the purchasing of equipment and spare parts, describe two business risks to MSL that Crampton and Hasaad will consider in planning the 2015 audit.

 (b) For each business risk identified in (a) describe a specific audit risk that could arise. Each responses should include the identification of account balances that are impacted directly by the audit risk.

As an audit firm CJI is  performing an Audit of luxury travel holidays Ltd a travel company from past few years.The audit firm headed by the partner Geoff , while performing the audit of LTD the audit firm CJI  has identified and evaluated  various threats in each situation that might affect auditorsindependence.

• Threats are the possible risks and hazards that affect the auditor integrity and independence .

• Advocacy and self-interest threat

When a professional is require to promote his client work for getting future reappointment might create self-interest threat in business and affect auditors independence in framing opinion. As per the given situation advocacy threat is arising when Geoff is asked to give a speech about LTH at the next travel agency seminar, to assist in promoting LTH’s business to attract more investors.

• Offering undue gifts and rewards threat for maintaining long-term relationship 

When a client is offering undue gifts and reward for the maintaining long  term and future relationship with the client influence the judgment of the professional (Khorwatt, 2015). So as per the given situation LTD offer to CJI  a complimentary 14-day holiday package voucher for four people to the Greek isles for both Geoff’s and family to express sincerity towards CJ and Geoff, and to maintain the good relationship in anticipation of another smooth audit for 2015 is unethical and unjustable.

• Blood  relationship threat in business

When an audit firm or any member of the audit firm having close blood relationship with the client team member that might influence the judgment of the professional and result in blood relationship threat.so as per the given situation close relationship between the financial reporter of LTH  and auditor of the firm Michael creating a threat that might affect the auditor independence.

• Self-review  threat of  professional 

When audit firm or any member of audit firm is performing any non-audit service such as provision of accounting services or provision of taxation service give rise to self-review threat as this attacks the objectivity of the professional in decision making (Dai & Handley-Schachler, 2015). As per the given situation Anette work is considered as  non-audit work performed by the member of audit team influence the auditor judgement.

Safeguards are those measures that  are used to eliminate these threats in an acceptable manner that affect overall  auditor independence. Safeguard are created by the professional, legislation or regulation or they are created within the organization.

• An external review from a person may be outside the audit team of CJI  makes possible safely work with former employees.
• Rotate the concern CJI , and if still the threat exist and its material withdraw from the engagement.
• CJI  should humbly refuse and cancel the gifts and hospitality offered by the audit firm as its affects the auditor independence.
• CJI should inform audit committee or the person in charge in case of undue gifts and hospitality.
• CJI should give rewards and promotion for ethical behavior as it helps in elimination of unethical behavior.
• CJI should properly check the background and references during recruitment procedures so that employees having a strong sense of integrity.
• CJI should encourage employees to report unethical practice without fear.
• CJI should train , educate and experience the requirement before entering them into the profession(Beattie, Fearnley, & Brandt, 2005).

As per the given case Crampton and Hasaad an audit firm is planning and performing  the audit of Mining supplies LTD (MSL) for the year ended 30 June 2015. MSL sells spare parts and mining equipment to mining companies across Australia and  has operational centers in Perth, Newcastle, and Mt. Isa. With each warehouse of equipment and spare parts and provides sales and maintenance services. As an auditor will discuss various kinds of business risk in audit planning.

Business risk relates to uncertainty in profit or risk of loss and risk of uncertain events in business that could cause business failureBusiness risk is a much-expanded form of audit risk. Business faces various types of risk that can cause serious loss of profit  among these various risk auditor of MSL has identified two main business risk that  can cause failure of business (Khorwatt, 2015).

Strategic risk

This type of risk arises when organization fails to achieve its goals due to less effective strategy because of change in technology, change in customer demand according to dynamic environment or a new powerful competitor entry into the market and sometimes failure to adapt strategic risk led to bankruptcy for MSL (Szívós, 2014).

Operational risk

This type of risk arises when organization faces unexpected failure in day to day operation caused due to technical failure or by people or by process for example of operational risk as per the given situation when the employee of MSL company writes the wrong amount on the cheque and paying out rupees 200000 instead of 20000 from MSL  account.

According to standards of auditing the auditor through understanding the entity and its environment  the  auditor identify and assess the risk of material misstatement. While performing the audit of MSL the auditor has identified following risk in relation to audit. The risk when auditor fails to detect fraud and error in the financial statement due to which it may  issue an unqualified report.

Audit risk is  consists of

• Inherent risk

The material misstatement exists in assertion of financial statement due to no internal control as a result high inherent risk leads to  higher existence of material misstatement.

• Control risk

The material misstatement exists in assertion because of  ineffective  internal control system of the entity due which frauds and error are not  prevented, controlled and detected by entity before entering in the financial statement (Khorwatt, 2015).

• Detection risk

When material misstatement exists in financial statement and auditor fails to detects  in it frauds and error and because of that it express an inappropriate opinion on the financial statement (Khorwatt, 2015).

Bibliography

Beattie, V., Fearnley, S., & Brandt, R. (2005). Auditor Independence and Audit Risk: A Reconceptualisation .

Dai, Y., & Handley-Schachler, M. (2015). A Fundamental Weakness in Auditing: The Need for a Conspiracy Theory. Procedia Economics and Finance .

Khorwatt, E. (2015). Assessment of Business Risk and Control Risk in the Libyan Context.

Szívós, L. (2014). The Role of Data Authentication and Security in the Audit of Financial Statements.