Atu Emma & Co Chartered Accountants has audited Great Tribulation Ltd for 10 years. In 2017, the Directors found out that the company has been borrowing to finance operating expenses and this has gone on for the past two years. They have advised their Lawyers to commence legal action against the Auditors for misleading the Directors into approving the annual financial statements after they have given an unqualified audit opinion.
Required:
Compare the responsibilities of the directors and auditors regarding the annual financial statements of Great Tribulations Ltd. (10 marks)
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- Preparation of financial statements. The directors have a legal responsibility to prepare financial statements giving a true and fair view. This implies that they have been prepared in accordance with the relevant IASs and IFRSs. The auditor’s duty is to carry out an audit (according to the International Standards on Auditing) and to give an opinion on whether a true and fair view is given (or whether the financial statements present fairly, in all material respects, the financial position of the entity). In doing this they will have to consider whether the relevant accounting standards have been properly followed.
- Estimates and judgements and accounting policies. The directors have the responsibility for making the estimates and judgements underlying the financial statements and for selecting the appropriate accounting policies. The auditor’s responsibility is to assess the appropriateness of the directors’ judgements and to modify the audit opinion in the case of any disagreement causing the auditors to conclude the financial statements are not free from material misstatement.
- Fraud and error. The directors have a duty to prevent and detect fraud and error. This is a duty they owe to the shareholders and there is no ‘materiality’ threshold attached to their duty. The auditor is responsible (under ISA 240) for obtaining reasonable assurance that the financial statements are free from material misstatement including material misstatement caused by fraud. The auditor is responsible for maintaining professional scepticism throughout the audit, considering the possibility of management override of controls. The audit team must discuss how and where the entity’s financial statements may be susceptible to material misstatement due to fraud, including how fraud might occur.
- Disclosure. The directors are responsible for disclosing all information required by law and accounting standards. The auditor’s responsibility is to review whether all the disclosure rules have been followed and whether the overall disclosure is adequate. There are certain pieces of information, which, if not disclosed by the directors, must be disclosed by the auditor in his report. Examples of this are related party transactions and transactions with directors.
- Going concern. The directors are responsible for assessing whether it is appropriate to treat the business as a going concern. In doing this they should look at forecasts and predictions for at least twelve months from the reporting date. They should also disclose any significant uncertainties over the going concern status of the company. The auditors’ responsibility is to consider whether there are any indicators of going concern problems in the company, and assess the forecasts made by directors and decide whether the correct accounting basis has been used and whether there is adequate disclosure of significant uncertainties.