ETHICS AND ACCEPTANCE

INDEPENDENCE

• Professional accountants have a responsibility to act in the public interest. The purpose of
assurance engagements is to increase the confidence of the intended users.(shareholders)
• In order to be trusted the assurance provider(auditors) needs to be independent of their
client.
• Independence can be defined as having ‘freedom from situations and relationships where
objectivity(impartiality) would be perceived to be impaired by a reasonable and informed
third party.’
• Practitioners need to behave and be seen to behave in an ethical, professional manner.
THE IFAC AND ACCA CODES AND THE
CONCEPTUAL FRAMEWORK

• Both of these Codes have the same roots and are, to all intents and purposes identical.
• Both follow a conceptual framework which identifies:
1. Fundamental principles of ethical behaviour
2. Potential threats to compliance with these fundamental principles
3. Possible safeguards which can be implemented to eliminate the threats identified, or
reduce them to an acceptable level.
• Both IFAC and the ACCA adopt a principles-based approach. (Principle and rule)
CONSEQUENCES OF NON COMPLINACE
• Practitioners should apply the spirit of the code to everyday practice. Professional bodies
such as the ACCA have the right to discipline members who fail to comply with the code
of ethics through a process of disciplinary hearings which can result in:
• Fines
• Suspension of membership
• Withdrawal of membership.
 THE FUNDAMENTAL PRINCIPLES

1. Objectivity: Members should not allow bias, conflicts of interest or influence of others to
override professional or business judgments.
2. Professional behaviour: Is to comply with relevant laws and regulations and should
avoid any action that discredits the profession.
3. Professional competence and due care: Members should maintain level of
professional knowledge and skill at a level required to ensure competent professional
services based on current developments in practice, legislation and techniques are
provided.
• Members should act diligently and in accordance with applicable technical and professional
standards.(IFRS,IAS,ISA)
 THE FUNDAMENTAL PRINCIPLES

4. Integrity: Members should be straightforward and honest in all professional and

business relationships.
5. Confidentiality: Members should 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.
 CONFIDENTIALITY

Disclosure of confidential information should only be made if:

1. If it authorized by the client.
2. Disclosure is permitted by law or Information should only be disclosed with proper and specific
authority or when there is a legal or professional right or duty to disclose the employer. (obligatory
disclosure)
Disclosure is required by law, for example:
• Production of documents or other provision of evidence in the course of legal proceedings.
• Court orders to give some information.’
• Client is involved in money laundering, act terrorism or drug trafficking.
 CONFIDENTIALITY

– Disclosure to the appropriate public authorities of infringements of the law that come to
light.
• Taxation law
• Terrorist financing
• Money laundering
• Insider dealing, market abuse, and bribery
• Drug trafficking
 CONFIDENTIALITY

Voluntary disclosure: It can be given in he following situations:

• When public interest is at stake: An auditor may disclose information if they
consider it to be in the public interest. There is no official definition of 'public interest'.
The auditor must employ a combination of judgment and legal advice. A good rule of
thumb is that if a member of the public could incur physical or financial damage that the
auditor could knowingly have prevented it is likely that the auditor has failed in their
public duty.
 CONFLICTS OF INTEREST

A conflict of interest arises when the same audit firm is appointed for two companies
that interact with each other, for example:
1. Companies which compete in the same market (competitors) A&B
2. Companies which trade with each other. (supplier or customer)
• A conflict of interest may create a threat to the fundamental principles of objectivity
and confidentiality.
• It may be perceived that the auditor cannot provide objective services and advice to a
company where it also audits a competitor.
 CONFLICTS OF INTEREST

The following additional safeguards should be considered:

1. Separate engagement teams (with different engagement partners and team members).
2. Procedures to prevent access to information, e.g. physical separation of the team members
and confidential/secure data filing.
3. Signed confidentiality agreements by the engagement team members.
4. Regular review of the application of safeguards by an independent person of appropriate
seniority. (shouldn`t be member of the both teams) (Independent partner review)
5. Advise the clients to seek independent advice.
 CONFLICTS OF INTEREST

• If adequate safeguards cannot be implemented (i.e. where the acceptance/ continuance of

an engagement would, despite safeguards, materially prejudice the interests of any clients)
the firm must decline or resign from one or more conflicting engagements.
 THREATS

•
Identify threat

Assess threat
(significance)

Apply safeguard

Threat: Any situation in which auditor`s independence can`t be

maintained.
Safeguard: is an action or measure that eliminates a threat, or reduces it
to an acceptable level.
 THREATS

• Following are the 5 threats:

1. Self interest threat: it arises in a situation where the personal interest of the auditor
is in conflict with his professional responsibilities.
2. Self review threat: it arises in a situation where auditor is involved in the preparation
of financial statements.
3. Familiarity threat: it arises in a situation where auditor becomes too much familiar
with client's employees.
 THREATS

4. Advocacy threat: it arises in a situation where auditor represents/defends the client

in front of some third party.
5. Intimidation threat: it arises in a situation where management of the clients tries to
influence the auditor.
 SELF-INTEREST THREAT
Following are the examples of self interest threat:
1. Fee dependency: it arises when client is a major source of income for the audit firm.(firm is giving
different services)
Safeguard: Fee from one public limited company should not be more than 10%-15% of firm`s total income
for consecutive 2 years.
2. Gifts and hospitality: can effect the independence of the auditors.
Safeguarde:
• are not acceptable unless they are of insignificant value.
• The offer is for entire staff and not specially for the auditors.
 SELF-INTEREST THREATS
3. Owning shares: If auditors own the shares of client`s company he might not gives qualified
opinion where required because it might effect the share price adversely.
Safeguard: Any member of audit team who owns or whose family members owns the shares
of the client's company should be removed from the audit team.
4. Loans and guarantees: if obtained from audit client can cause self interest because they
will not be on normal market terms & conditions.
Safeguards: Loans and guarantees are only allowed if client is a financial institution and the loan
is according to market terms & conditions. Loan from any other audit client is prohibited.
 SELF-INTEREST THREATS

5. Overdue/ outstanding fees: it is regarded as a loan to the client which is not

permittable.
Safeguard:
• New audit work should not be started unless the previous dues are cleared by the client.
• If fee is unpaid but client has agreed to pay it on some future date, independent review of
the work should be done.
 SELF-INTEREST THREATS
6. Contingent fee: is the fee dependent upon some condition e.g audit fee is a percentage
of profit before tax for the year.
Safeguard: audit fee on contingent basis is not allowed. Audit fee should always be
predetermined i.e it should be agreed between the client and the firm before the audit
starts.
7. Business relationships: if audit firm enters into a business relationship with the client
e.g. joint venture or partnership this will cause self interest threat because auditor will be
interested in the success of the business. Business relation between audit team member
and the client would create self interest threat.
 SELF-INTEREST THREATS

Safeguard:
• if the firm is doing business with the audit client it is only allowed if the financial interest
involved is insignificant.
• if any team member of the audit has business relations with the client that person should
be removed from the audit.
8. Potential employment with an audit client: if any of the audit team member
expects to get a job at client this could cause self interest threat due to which that team
member might compromise his independence.
 SELF-INTEREST THREATS

Safeguard: the policies of the firm should encourage the individual to inform the firm and
he should be removed from the audit team. If some work is already performed by him it
should be carefully reviewed.
 FAMILIARITY THREATS

1. Long association with client: if some team members are used for auditing the client
for number of years it will create familiarity threat.
Safeguard: for public limited companies audit partner should rotate after 7 years and then
cooling off period of 2 years is required during that time they should not be engaged in the
same company`s audit in any capacity.
2. Personal relations: if the audit team member and employee of the client has personal
relations e.g. they are close friends or relative it could cause familiarity threat and self
interest & intimidation threat. Closeness of relation, seniority of team member and
employee of client these are the factors which effects the significance of the threat.
 FAMILIARITY THREATS

Safeguard: the person having personal relations with the employee of the client should be
removed from the audit team of that client.
3. Employee of the client joins the firm: if he will be involved in the audit of his former
employer company it would cause familiarity threat as he will be familiar with the staff.
Safeguard: he should not be the part of the audit team of his former employer for at least
a period of 2 years.
 FAMILIARITY THREATS

4. Audit staff leaves the firm and joins the client: even if that person leaves the firm
he still have connections with the firm.
Safeguard:
• Replace that person with some experienced person.
• Detailed review of the work performed by that persons should be carried out senior
team members of the audit team.
 ADVOCACY THREAT

1. Negotiating on the client's behalf for finance with the bank.

Safeguards:
• Where the amounts are material the audit firm must not act for the audit client in this
way. Any request for such services must be politely declined.
• Where the matter is not material to the financial statements the firm should use
professionals who are not members of the audit team to perform the service.
 ADVOCACY THREAT

2. Representing the client in court case or in any other dispute or investigation by some
regulatory authority where the matter is material to the financial statements it will cause
significant advocacy threat. (tax authorities)
Safeguards: same as above.
3. Providing services involving promoting or dealing in an audit client’s shares would create
an advocacy or self-review threat.
Safeguards: Any request for such services must be politely declined.
 INTIMIDATION THREAT

1. Actual or threatened litigation between the auditor and audit client can cause intimidation threat.
Gave wrong opinion due to negligence. Law empowers client to claim damages from the auditors if
they issued wrong audit opinion in previous 5 years.
Safeguards: in this case it may be necessary to resign from the engagement.
2. Intimidation can arise from some of the same situations mentioned already e.g.
• Fee dependency (self interest threat)
• Personal relationships ( familiarity threat)
• Audit partner joining the client (The safeguards to address these threats are the same as to address the
other threats.)
• Overdue fee (self interest threat)
 SELF REVIEW THREAT

1. Accounting or book keeping services: if firm provide these services e.g.

preparation of the financial statements it will create significant self review threat.
Safeguards:
• If client is a public limited company then the firm can not give these services to the audit
client.
• If client is a private limited company then firm is allowed to give these services but
separate teams should be used.
 SELF REVIEW THREAT

2.Taxation services: If this service involves calculation of tax which will be included in
financial statements it will cause significant self review threat whereas filling of tax return
will not cause a threat.
Safeguard:
• For listed clients not allowed.
• For private companies separate teams should be used.
 SELF REVIEW THREAT

3.Valuation services: e.g valuation of some asset or the whole business.

Safeguards:
• For listed clients not allowed.
• For private companies separate teams should be used.
4. Clients staff joins firm: Same as discussed above.
 SELF REVIEW THREAT

5. IT services: can cause self review threat because auditor is considered to assume
management responsibilities.
Safeguards: firm can only provide IT services which involves design or implementation of IT
system unrelated to financial statements. Accounting software
6. Internal audit services: can cause self review threat because auditor is considered to
assume management responsibilities. Review systems & controls(operational& financial)
Safeguards: Firm can’t provide internal audit services to a listed client if it involves review of
internal controls related to financial statements or review of financial accounting system.
 SELF REVIEW THREAT

7.Temporary staff cover: If for some reason a member from the firm goes to the client
as cover of their employee in their accounting & finance department and then the same
person is doing the audit it will cause self review threat. (long medical or study leave)
Safeguards:
• Person providing staff cover should not be the part of audit team.
• Person providing staff cover should not be involved in management role.
• Person providing staff cover should be supervised by the management of the client.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

• The firm should consider the following matters before accepting a new engagement or
client:
1. Professional clearance Letter
• Ask the client for permission to contact the previous auditor (and refuse the audit
engagement if the client refuses).
• Contact the outgoing auditor, asking for all information relevant to the decision whether
or not to accept appointment.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

• If a reply is not received, the prospective auditor should try and contact the outgoing
auditor by other means e.g. by telephone.
• If a reply is still not received, the prospective auditor may still choose to accept but must
proceed with care.
• If a reply is received, consider the outgoing firm's response and assess if there are any
ethical or professional reasons why they should not accept appointment.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

2. Independence and objectivity: If the assurance provider is aware, prior to accepting

an engagement, that the threats to objectivity cannot be managed to an acceptable level, the
engagement should not be accepted.
3. Management integrity: If the firm has reason to believe the client lacks integrity there
is a greater risk of fraud and intimidation.
4. Money laundering (client due diligence): The firm must comply with money
laundering regulations which require client due diligence(fact finding) to be carried out. If
there is any suspicion of money laundering, or actual money laundering committed by the
prospective client, the firm cannot accept the engagement.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

6. Resources: The firm should consider whether there are adequate resources available at
the time the engagement is likely to take place to perform the work properly. If there is
insufficient time to conduct the work with the resources available the quality of the work
could be affected.
7. Risks: Any risks identified with the prospective client (e.g. poor performance, poor
financial controls, unusual transactions) should be considered. These risks can increase the
level of engagement/audit risk, i.e. the risk of issuing an inappropriate report.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

8. Fees: The firm should consider the acceptability of the fee. The fee should be
commensurate with the level of risk. In addition, the creditworthiness of the prospective
client should be considered as non-payment of fees can create a self-interest threat.
9. Professional competence: An engagement should only be accepted if the audit firm
has the necessary skill and experience to perform the work competently.
10. Reputation of the client: The audit firm should consider the reputation of the client
and whether its own reputation could be damaged by association.
ACCEPTING/CONTINUING AN AUDIT
ENGAGEMENT

• If there are any reasons why the firm believes they may not be able to issue an
appropriate report, they should not accept the engagement.
 PRACTICE QUESTION

• You are an audit manager of Ali & Co and have just been assigned the audit of Stark Co
(Stark). Stark, a listed company, provides investment advice to individuals, and is regulated
by the relevant financial conduct authority.
• Mr Day, a partner in Ali & Co, has been the audit engagement partner for Stark for the
previous nine years and has excellent knowledge of the client. Mr Day 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 exams for her ACCA qualification.
 PRACTICE QUESTION

• In an initial meeting with the finance director of Stark, you learn that the audit team will not
be entertained on Stark's yacht this year; 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.
• Ali & Co has always carried out tax advisory work for Stark. The tax advisory services do not
have an impact on the figures reported in the financial statements. The finance director has
stated that he feels strongly that the firm that offers taxation services this year should charge
a fee which is based on a percentage of tax saved. He also trusts that your firm will accept a
fixed fee for representing Stark in a dispute regarding the amount of sales tax payable to the
taxation authorities.
 PRACTICE QUESTION

Required:
• Identify and explain 5 threats from the information provided. For each threat suggest a
suitable safeguard.