The Institute of Chartered Accountants (Ghana) is organizing a continuous professional development program on the code of conduct for members and other relevant issues pertaining to audit. You are the audit partner of Lankai and Co, a firm of Chartered Accountants, and you are to present a paper on the independence of the auditor and the inherent limitations of auditing.
Required:
Your presentation should explain:
i) TWO (2) advantages of independent audit. (3 marks)
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- Independent audits are important for inspiring and maintaining donor trust because they demonstrate that the non-profit is committed to financial transparency and accountability.
- It helps the management in detection of errors and frauds.
- It helps the management in obtaining loans from banks and other financial institutions as the audited statements are relied upon.
- It builds up the reputation of the business.
- Auditors can give concrete suggestion regarding improvement of business on the basis of their findings in records.
- Audited financial statements help the board of director have more confidence in the organization’s finances because they are based on an analysis by an objective third-party.
- Some private foundations require that potential grantees submit audited financial statements, or similarly certified financial statements, in order to be eligible for funding.
(Any 2 points)
ii) The phrase “the auditor must be seen to be independent both in fact and appearance”. (3 marks)
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The phrase “the auditor must be seen to be independent both in fact and appearance”
- Independent in fact – This is the state of mind that permits the provision of an opinion without being affected by influences that compromise professional judgement, allowing an individual to act with integrity and exercise objectivity and professional skepticism.
- Independence in appearance – This is the avoidance of facts and circumstances that are so significant that a reasonable and informed third party having knowledge of all relevant information, including safeguards applied, would reasonably conclude a firms, or a member of the assurance team’s integrity, objectivity or professional skepticism had been compromised. This refers to how independent observers perceive the auditors behavior in relation to performance of his professional duty.
iii) Inherent limitations of audit. (4 marks)
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- Minimization and not elimination of errors – Due to time and cost constraints, the auditor uses selective testing to examine the transactions. Consequently, there may be material misstatements resulting in errors and fraud that remain undetected. It is also not possible for the auditor to uncover a carefully laid scheme of fraud. Thus auditing only reduces and does not eliminate the possibility of existence of errors and fraud in books of account and financial statements.
- Inconclusiveness of evidence- The evidence obtained by an auditor is persuasive rather than conclusive. Therefore, an auditor can only draw reasonable conclusions from such evidence.
- Exercise of judgement – The nature, timing and extent of audit procedures to be performed is a matter of professional judgment of the auditor. In addition, the auditor exercises judgment to ascertain the reasonableness of various estimates made by the management in the financial statements. As a result, audit conclusions are based on judgement and not reached through the scientific process.
- Inherent limitations of internal control systems – These also contribute to the inherent limitations of audit. This arises due to:
Potential human error
Possibility of collusion
Manipulation by management
Possibility that a person responsible for exercising control could abuse the authority and
Possibility that procedures may become inadequate due to changes in entity’s business and economic environment