ETHICS FRAMEWORK

Conduct of the Audit

The conduct of audits is governed by three sets of rules:• Codes of ethics• Auditing Standards (ISAs)• Company law.

Sources of ethical guidance

IFAC Code of Ethics – governs audits carried out under ISAs. ACCA Code of Ethics – to be followed by ACCAs, but is practically identical to

the IFAC code.

Fundamental principles

IFAC Code of Ethics Integrity Objectivity Professional competence and due care Confidentiality Professional behaviour

Integrity Be straightforward and honest in all professional and business relationships. Integrity also implies fair dealing and truthfulness.

Objectivity Not allow bias, conflicts of interest or undue influence of others to override professional or business judgement.

Professional competence and due careMaintain professional knowledge and skill at the level required to ensure that clients or employers receive competent professional service; and Act diligently in accordance with applicable technical and professional standards when providing professional services.

Confidentiality Respect the confidentiality of information acquired as a result of professional and business relationships and should not disclose any such information to third parties without proper and specific authority or unless there is a legal or professional right or duty to disclose. Confidential information acquired as a result of professional and business relationships should not be used for the personal advantage of members or third parties.

Professional behaviour Members should ensure they comply with relevant laws and regulations and should avoid any action that discredits the profession.

General threats to objectivity

Self-interest

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Self-review Management - doing the management role Advocacy - seems to represent the client’s views / position on a matter Familiarity or trust Intimidation

Self-interestThe threat that auditors act in their own personal interests (or are believed to be doing so). Examples include:

owning shares in their client receiving excessive gifts or hospitality from clients receiving excessive fees from a single client having personal or business relationships with clients audit fees that are calculated in a way that might encourage unethical behaviour

by the auditor.

Self-review The threat that if auditors do certain tasks for clients, their audit work may result in checking their own work. Examples:

giving advice on accounting or control systems, then auditing them preparing the accounting information, then auditing it helping with calculations of numbers in the Financial Statements, then auditing

them.

Familiarity The threat that if auditors are too familiar / friendly with a client, they might deliberately or accidentally put too much trust in their client and not be sceptical enough, leading to under-auditing. Examples include:

auditing companies where the auditor's relatives or friends work auditing the same company for many years in a row if a client is offering a lot of hospitality, this may be a clue that there is too close a

relationship with the auditor there are people working at the client who are recent ex-employees of the audit

firm.

Advocacy The threat caused when auditors are asked to do other work that means they are taking their client's position on something. By taking this position, they may be seen to be “on the client's side”, rather than being independent. Examples include:

representing an audit client in a legal case or tax enquiry taking legal action against a client, or being sued by a client.

Examples of circumstances that may create this threat include to:

(i). Dealing in, or being a promoter of, shares or other securities in an assurance client.

(ii). Acting as an advocate on behalf of an assurance client in litigation or in

resolving disputes with third parties.

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Intimidation The threat caused by a client being in a position to put pressure on an auditor. Examples are the same as Self-Interest ... the difference here is that the presumption is that the client is being a bully – rather than the auditor is being nice to their client out of their own choice. Examples of circumstances that may create intimidation threat include:

(i). Threat of replacement over a disagreement with the application of an accounting principle; and

(ii). Pressure to reduce inappropriately the extent of work performed in order to reduce fees.

Management The threat that auditors may agree to do other services that result in them making decisions for clients. If they take on management functions, their independence is likely to be questioned.

Integrity, Objectivity and Independence

Sets out requirement for firms to have policies and procedures relating to ethics. The firm should appoint an ethics partner. For listed clients, compliance with ethical standards should be reviewed by an

independent partner. Matters that bear on the auditors’ objectivity and independence should be

communicated to client management.

Dec 2007 2 (a) Explain each of the FIVE fundamental principles of ACCA’s Code of Ethics and Conduct. (5 marks)

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Detailed guidance

Specific threats

Why Safeguards

Beneficial interest in shares

Will want the highest value for shares therefore will not disclose anything that will devalue shares

Audit partner and staff cannot hold shares in audit client so resign or not accept.

Mutual business interest

Will want the highest value Should not go into business with audit client

Staff moving from audit firm to client

May lose professional scepticism as you know the people involved, familiarity threat.

They know the systems and may work around the auditors weaknesses.

Partner becomes client management within 2 years of being involved in the audit – firm should resign as auditors

Other staff – firm must consider implications for independence

All – partners and staff should disclose intention to move to client and be removed from the audit team

Client staff joining audit firm

as above Should not be allowed to work on the audit for 2 years

Acting for a prolonged period for listed clients

Lose professional scepticism.

May not want to upset a friend and lose the relationship

Rotate staff as follows:

Engagement partner – 5 years

Key audit partners and senior staff – 7 years

Acting for a prolonged period for non-listed clients

Rotate staff as follows:

Engagement partner – 10 years

Rules more relaxed – might be able to make a case that partner should remain for longer

Dependence on client

Will have the fear of losing the money and therefore will not want to upset the client.

Self interest threat

Fees for services to clients should not exceed following % of firm’s fee income:

o Listed: 10% (review at 5%)

o Non-listed: 15% (review at 10%)

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Loans, etc. Fear of not getting paid if we upset the client

Not allowed loans or guarantees

Overdue fees akin to a loan

Hospitality or other benefits

Bribe

Lose professional scepticism

Firm should have a policy

Basic idea is that they should be modest

Should not accept

Litigation Intimidation treat Firm should resign as auditor if there is actual or potential litigation between audit firm and client

Other services Self review threat as if we as the auditors review our work and we find an error we may hide those errors to save face

Consider the impact of non-audit services

Establish safeguards to counter any threats – different teams

Communicate with those charged with governance

Document rationale for decisions taken

Do not help PLCs prepare accounts except in an emergency

Do not carry out IA / IT / Valuation work where the external audit opinion will place heavy reliance upon this other work

Dec 2008 Q3 You are a manager in the audit firm of Ali & Co; and this is your first time you have worked on one of the firm’s established clients, Stark Co. The main activity of Stark Co is providing investment advice to individuals regarding saving for retirement, purchase of shares and securities and investing in tax efficient savings schemes. Stark is regulated by the relevant financial services authority.You have been asked to start the audit planning for Stark Co, by Mr Son, a partner in Ali & Co. Mr Son has been the engagement partner for Stark Co, for the previous nine years and so has excellent knowledge of the client. Mr Son has informed you that he would like his daughter Zoe to be part of the audit team this year; Zoe is currently studying for her first set of fundamentals papers for her ACCA qualification. Mr Son also informs you that Mr Far, the audit senior, received investment advice from Stark Co during the year and intends to do the same next year.In an initial meeting with the finance director of Stark Co, you learn that the audit team will not be entertained on Stark Co’s yacht this year as this could appear to be an attempt to influence the opinion of the audit. Instead, he has arranged a balloon flight costing less than one-tenth of the expense of using the yacht and hopes this will be acceptable. The director also states that the fee for taxation services this year should be based on a percentage of tax saved and trusts that your firm will accept a fixed fee for representing Stark Co in a dispute regarding the amount of sales tax payable to the taxation authorities.

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Required:(a) (i) Explain the ethical threats which may affect the auditor of Stark Co. (6 marks)(ii) For each ethical threat, discuss how the effect of the threat can be mitigated. (6 marks)

ACCA ETHICAL GUIDANCE

Confidentiality

Auditors should keep client information confidential unless there is a right or duty to disclose.

Right to disclose Duty to discloseClient permission obtained Money laundering or suspicions of

terrorism or treasonPublic interest Ordered to by a courtTo defend the audit firm Required by a regulator

Duty to disclose

1) Disclose information to certain regulatory bodies: Police – of breaking the law Financial services Banks Insurance companies Money laundering – drug trafficking

2) If the courts demand information and you refuse to disclose/provide the information it is likely to be considered contempt of court which is illegal

Right to disclose

3) If the actual auditors are subject to disciplinary then they can disclose information

4) Auditors are allowed to disclose information if they consider it too be in the public interest. Need to take care here as it maybe difficult to prove.

5) If the client gives authorisation we have the right to disclose.

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Conflicts of interest

Definition: Difficult situations to manage, with no obvious “correct” solution.

Rules under ACCA – Avoid conflicts of interest wherever possible

Risks:

confidential information moving between parties reduced objectivity

Safeguards

Firm vs client

E.g. where the auditor recommends another service to a client and receives a commission for doing so.

Disclose to client. Obtain client consent.

Client vs client

E.g. the firm audits clients who are competitors. Main issue is confidentiality. Disclose to client and then the client can decide to continue or not Separate teams with separate reporting lines. Maintain confidentiality (“Chinese walls”). Independent partner review. If sufficient safeguards cannot be implemented, consider resigning / refusing to

act.

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Whose responsibility are the following:• Preparation of accounts.• Undertaking the risk assessment exercise.• Detection of fraud.• Reporting on controls.Answer Directors.• Directors/management/outsourced/internal auditors.• Directors.• External/internal auditor

Final home assignment after chapter 4

2010 June 4 (a) State the FIVE threats contained within ACCA’s Code of Ethics and Conduct and for each threat list ONE example of a circumstance that may create the threat. (5 marks)

(b) You are the audit manager of Jones & Co and you are planning the audit of LV Fones Co, which has been an audit client for four years and specialises in manufacturing luxury mobile phones.During the planning stage of the audit you have obtained the following information. The employees of LV Fones Co are entitled to purchase mobile phones at a discount of 10%. The audit team has in previous years been offered the same level of staff discount.During the year the financial controller of LV Fones was ill and hence unable to work. The company had no spare staff able to fulfill the role and hence a qualified audit senior of Jones & Co was seconded to the client for three months. The audit partner has recommended that the audit senior work on the audit as he has good knowledge of the client. The fee income derived from LV Fones was boosted by this engagement and along with the audit and tax fee, now accounts for 16% of the firm’s total fees.From a review of the correspondence files you note that the partner and the finance director have known each other socially for many years and in fact went on holiday together last summer with their families. As a result of this friendship the partner has not yet spoken to the client about the fee for last year’s audit, 20% of which is still outstanding.

Required:(i) Explain the ethical threats which may affect the independence of Jones & Co’s audit of LV Fones Co; and (5 marks)

(ii) For each threat explain how it might be avoided. (5 marks)(c) Describe the steps an audit firm should perform prior to accepting a new audit engagement. (5 marks)(20 marks)

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2010 Dec 3 (a) In agreeing the terms of an audit engagement, the auditor is required to agree the basis on which the audit is to be carried out. This involves establishing whether the preconditions for an audit are present and confirming that there is a common understanding between the auditor and management of the terms of the engagement.Required:Describe the process the auditor should undertake to assess whether the PRECONDITIONS for an audit are present. (3 marks)

Pilot Paper 2 (a) ISA 210 Terms of Audit Engagements explains the content and use of engagement letters.Required:State SIX items that could be included in an engagement letter. (3 marks)

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