AUDIT RELATED AND ASSURANCE SERVICES QUWESTION AND ANSWERS

QUESTION I

Public sector auditing refers to the examination of and control of government receipts and payments with a view of assessing the benefits derived from the use of public property, utility or service and evaluate level of responsibility and accountability of government officers to the electorate.

The audit exercise is governed professional norms of independence, competence and due care and it draws its mandate from the constitution. The client is in principle the government comprising the executive office, ministries, the treasury, county governments, independent departments and government executed projects.

  1. The comprehensive process in public sector audits Three parties are involved.
    • Auditor who works in the Auditor General Office
    • Responsible party — management mandated with managing resources in the organisation.
    • Intended users — citizens
  2. Two main elements of public sector audits
    • Auditors issue a report in the use of public funds. Is the money used for right purposes?
    • Auditors are required to give reports within six months to parliament. Responsibility of audit stall
    • National government
    • County government
    • Constitutional commissions
    • National assembly, Senate
    • Judicial Service Commission
    • All government parastatals

The responsibility of the audit staff is to audit the financial statements of all these entities.

Components

Financial audits verify usage of resources for intended activities

Compliance audits are about the rules and procedures prescribed, and what the policy is all about. Performance audits check issue of performance contracts.

The status, function and powers of the Controller and Auditor General Status

    • The Offices of both the Controller and Auditor General are constitutional as they arc provided for in Chapter 15 of the Constitution.
    • Security of tenure
    • Wide experience in public/public sector for 10 years relating to public sector management. Powers

– May conduct any investigation on improper usage of resources •        Insist any documents to be produced.

  • Insist persons to appear e.g. PAC to explain
  • has the powers necessary for conciliation, mediation and negotiation;
  • shall recruit its own staff

QUESTION 2

 Environmental matters

Are environmental issues touching on environmental damage, degradation and some production processes that inconvenience customer’s interests and stakeholders.

Implication environmental matters have on a company’s on financial statements

  • Provisions needed for site reconstruction costs
  • Impairment costs
  • Revenue costs
  • Capital expenditure
  • Contingent liability brought legal cases against the company.

 

 

QUESTION 3

 Common areas that value for money auditors will consider.

  • The systems of budgeting controlling revenue and capital expenditure and income, and for allocating scarce resources.
  • The quality and robustness of strategic and business planning and forecasting.
  • The monitoring of tendering arrangements for large capital; service or supply contracts.

Personnel management, including arrangements for deciding and reviewing staff levels. Arrangements concerned with proper management of the entire assets organisation to ensure they are at contributing to the efficiency of operations.

  • Arrangements designed to take advantage of economies of scale or skill.
  • The quality and accuracy of management and performance information.
  • Clear understanding of responsibilities, authority and accountability in the organisation structure.
  • Clear communication of policy objectives throughout the organisation mechanisms for consulting with and responding to customer needs.

QUESTION 4-

(You are the manager in charge of the audit of Minex Ltd. a renowned mining company in your country. Minex Ltd, intends to acquire a controlling interest in Brexo Ltd., a company based in East Asia. Brexo Ltd. claimed to have recently discovered huge deposits of gold.

The duty of your firm is to conduct a due diligence audit to enable your client, Minex Ltd., determine the true value of Brexo Ltd. It is further brought to your attention that the share prices of Brexo Ltd. have significantly risen in value following the announcement of the discovery of gold deposits.

Required:

Meaning of ‘due diligence’.

Due diligence audit refers to the investigation of the affairs of an entity by, or on behalf of a potential investor or purchaser before the transaction is complete. The primary purposes of due diligence is to enable the potential investor to make informed decisions concerning the balance of risk present and the available opportunities available should the transaction be completed.

 Challenges of conducting, the due diligence and how to resolve them

  • Where a visit is needed, the cost of such visit maybe prohibitive, adequate forward planning is necessary to deal with costs and identify the most cost effective measures e.g travelling expenses.
  • Expertise needed to conduct the due diligence might be lacking. There is need to plan ahead and identify the level of skills needed and source for them in advance.
  • There may be travel restrictions such as restrictive visa requirements making life difficult. There is need for adequate forward planning and if need be, seek external ways to overcome obstacles.
  • Information regarding value of mineral deposits might be exaggerated and-It might not be possible to resolve this due to collusion between parties. The auditor may need to have an, independent verification of such mineral deposits date. – Engage legal experts on foreign workings and regulations.

QUESTION 5

(a) Nyaya Products Ltd. is the leading company in smelting and refining of mineral ore in your country.

Your firm, XYZ and Associates have been the auditors of Nyaya Products Ltd.

You attended the annual general meeting of the company that was held on 31 March 2014. During the meeting, your firm was re-appointed as auditors for the current period.

The company intends to carry out an environmental audit in order to comply with the Environmental (Impact Assessment and Audit) Regulations. The financial controller has given your audit firm this special assignment.

The audit manager of your firm is aware that you are a qualified and authorised environmental auditor and has therefore assigned you this task.

Required:

Prepare a summary of the contents to be included in thesnvironmental audit report that you would prepare.

Summary of the contents of an environmental audit report.

  • Type of activity being audited.
  • An indication of materials used the final products, by-products and waste generated. A description of activities, processes and operations existing.
  • A description of national, legislative and regulatory frameworks on ecological and social- economic matters.
  • A description of the potentially affected ecological and social-economic matters.
  • A prioritisation of all past and on-going concern
  • Identification of environmental, occupational health and safety concerns.
  • An opinion on the efficacy and adequacy of the environmental management plan of the company.
  • Detailed recommendations for corrective activities, their cost, timetable and – mechanism for implementation.
  • Measures taken under environmental management programme to ensure implementation of acceptable environmental standards.
  • A non-technical summary outlining the key findings, conclusions and recommendations of the auditor.

QUESTION 6

With specific reference to environmental audits:

Explain six categories of environmental audits. 

Compliance audits

They are detailed, site specific assessments of current past and planned operations. They assess whether activities and operations are within the legal constraints imposed regulations.

Compliance audits are the most common type of environmental audits.

Compliance audits are categorised according to the level of detail effort they require. It may be categorised into preliminary assessment, environmental audit and environmental investigation.

Environmental management system audit

It focuses on the systems in place to ensure that they are operating properly to manage future environment risks. These audits are conducted internally when environmental audit process matures and organisations become confident in their compliance with regulations.

Transactional audits

They are also called acquisition and divesture, audits, property transfer site assessments, property transfer evaluations. ‘due diligence audits. They constitute an environmental risk management tool for banks, land buyers, lending agencies, charitable organisations, investors or any other organisation purchasing land for a facility site.

Treatment storage and disposal facility audits

It involves tracking of hazardous substances throughout their existence. All hazardous materials are tracked from creation to destruction and all owners of the hazardous materials have a liability for them as long as the owner exists.

Pollution prevention audits

These are operational appraisals that serve to identify opportunities where waste can be minimized and pollutions can be minimised or eliminated at the source rather than controlled at the end. Pollution prevention audits usually involve manufacturing facilities.

Environmental liability accrual audits

They are technical accounting and legal reviews involved with recognising, quantifying and reporting liability accruals for known environmental issues. The responsibility for assessing the reasonableness of cost estimates for environmental remediation falls to internal audit functions Product audits

They are appraisals within the production processes of a facility. Their objective is to provide assurance that the product is in compliance with chemical restrictions and with environmentally .sensitive interests. Product auditing is resulting in the development of fully recyclable products.

Describe the roles of the internal auditor in identifying and reporting environmental risks.

QUESTION 7

  1.  Matters that must be communicated clearly to readers of value for money audits area.
  2. Whether:
    • Too much money is being spent on certain items or activities, to achieve the targets or objectives’ of the overall operation
    • Money is being spent to no purpose, because the spending is not helping to achieve objectives
    • Changes could be made to improve performance
  3. The significance of value for money improvements in;-
    • Service delivery (the actual provision of a public service)
    • Management process

Environment

QUESTION 8

 Matters which you would investigate in the due diligence review.

  1. Structure of the business i.e. how it is currently owned and constituted.
  2. The financial health of the business looking at the past financial statement.
  3. The credibility of the senior management of the business i.e. looking at their career histories of the Directors and ensuring that a balance of skills is available.
  4. The future potentials of the business i.e. planned products and the likely future earnings.
  5. The risk involved in the business venture.
  6. The business plan available whether it is realistic or not.
  7. The level of competition and the market share.
  8. The industry regulations affecting the business.

QUESTION 9

Social and environmental issues could have a direct impact on the statutory audit because non- compliance with social and environmental legislation might have an impact on the financial statements

Required

Citing suitable examples explain cases where financial statements might be materially affected social and environmental issues.

Under ISA 250 the auditor has a responsibility to recognise any non-compliance with laws and regulations that may materially affect the financial statements. The following are examples of cases where financial statements might be materially affected social and environmental issues.

  • Impairment of assets for example a new environmental Jawor regulation is introduced that might lead to impairment of assets.
  • Contingent liability – a company may need to disclose contingent, liabilities in the financial statements when the expenses related to environmental matters cannot be estimated.
  • Provisions – The company needs to make a provision for all the expenses related to environmental matters to be paid in next financial year.
  • Going concern – In extreme situations, non-compliance with certain environmental laws and regulations may affect the ability of an entity to continue as a going concern. This may need to be disclosed while preparing financial statements.
  • Development costs If an entity develops any technology that would be environmentally friendly and would help to reduce pollution the estimated costs, need to be disclosed in the financial statements.

QUESTION 10

You are the audit manager at Shabir & Associates, a firm of Certified Public Accountants. One of tile clients assigned to you as the audit partner is Zep Engiering Ltd, a company engaged in oil and gas exploration. The audit partner has indicated that Zep Engineering Ltd, could be a high risk company with respect to social and environment obligations.

Required:

  1. Substance procedures to detect material misstatements with respect to social and • environmental matters.
    • Obtain a copy of the social and environmental policy of the firm and try to understand its policies concerning the environment and treatment of social and environmental Issues.
    • Potential impact of the social and environmental issues on the financial statements should be assessed
    • Hold discussions with the firm’s lawyers to provide more information on litigation matters that may be facing the firm.
    • Assess whether the social and environmental policy is likely to achieve its objectives which include, meeting, legal requirenients, satisfy customers/suppliers and other stakeholders.
    • Test the implementations and adherence to the policy holding discussions with the relevant persons within the firm. Complement the tests observations and walk through tests where applicable.
    • Determine the effect of the social and environmental issues on the overall operations of the firm including the going concern of the firm.
  2. Components of the independent verification report on environmental matters
    • Impact of the firm’s activities on the environment
    • A statement that management is responsible for the environmental matters and the associated environmental policies.
    • An opinion as to whether management has achieved the objectives of the environmental policy.
    • The recommendations made the auditor. The recommendations are with respect to the environmental matters.

QUESTION 11

Explain the approach that an auditor would follow in undertaking value for money audit in a public sector organization.

  • Gain an understanding of the public sector organization in terms of its various systems, goals, mission and vision.
  • Undertake studies that are geared towards improvement of economy, efficiency and economy of the public sector organization.
  • Prepare statistical profiles of similar organizations in the public or private sector. iv. Compare this data with the organization under question.
  • Identify performance gaps and give recommendations for improvement.
  • Encourage the public sector organization to adopt the recommendations and put them in practice with better rating in terms of economy, effectiveness and efficiency.

 

QUESTION 12

In the past, the accountancy profession has been criticised for its role in monitoring and reporting potential corporate failure. Radical reforms have been called for in the way the accountancy profession is regulated. There have been calls for legislation in the following areas: I. Auditing standards:

Auditing standards should be set and enforced independent of the ,accounting profession.

  1. Fraud:

Auditing firms should have a duty to detect and report fraud.

  1. Non-audit services:

Auditors should not provide their clients with non-auditing services.

  1. Duration of auditors appointment:

The appointment of auditors should be for a maximum period of seven years.

Required:

Describe the current regulatory and professional requirements relating to each of the main issues listed above.

The purpose of this question is to examine students on current and potential changes in practice within the profession.

(a)

  • Auditing standards are set the IAASB. ICPAK adopts all of the auditing standards promulgated the IAASB. Failure auditors to comply with auditing standards lends them open to disciplinary action their own accountancy body.

The Companies Act 1989 requires the Recognized Supervisory Bodies (such as the Association of Chartered Certified Accountants) to have rules and practices as to the technical standards t be applied in company audit work and as to the manner in which these standards are to be applied in practice.

Each Recognized Supervisory Body adopts auditing standards in order to meet the Companies Act requirement, and each body is required to have arrangements in place for the effective monitoring and enforcement of compliance with those standards. Failure to apply relevant auditing standards is a factor which an RSB will take into account when deciding whether persons are fit and proper to be eligible for appointment as company auditor.

  • Currently the responsibility within a company for the prevention and detection of fraud rests with management. As part of their business responsibilities, the directors of a -company have a fiduciary duty to safeguard he assets.

The Cadbury Committee has recently recommended that the auditor should check that the board of a company has established a system which ensures compliance with legal requirements. The auditor is not responsible for preventing Fraud but audit procedures should be designed to give the auditor a reasonable expectation of detecting any material misstatements, whether intentional or unintentional in a company’s financial statements. This responsibility is set out in SAS 110 Fraud and error (January 1995).

  • The auditor should always strive to be objective in his professional judgment. He should not only be independent in fact but he must be clearly seen to be independent in practice. The RSDs has no objective in principle to a practice providing services to a client, additional to the audit.

Care must be taken not to perform management functions or make management decisions. The auditor should not assist in the preparation of financial statements for public company clients unless the work is of a routine clerical nature or in emergency situation. Any fee paid to the auditor for non-audit work should be shown in the financial statements in addition to amounts paid for audit work.

Under the provisions of the Companies Act 1962, an auditor may not be an officer or employee of a client company. Thus it is necessary for the auditor to ensure that he does not make executive decisions.

For example if he recruits key financial and administrative Staff, it could be construed as the performance of a management function. The auditor’s objectivity may be threatened in such situation and he should be careful that he is not seen as acting as anything other than an independent adviser.

  • Under the Companies Act 1985 (s385),a company shall at each general meeting of the company at which accounts are laid, appoint an auditor to hold office from the conclusion of that meeting until the conclusion of the next general meeting at which accounts are laid. The ethical guidance issued ICPAK does not specifically deal with the length of audit appointments. However, the auditor should always be aware of any potential threat to his independence which may because an audit appointment which has lasted for a disproportionate length of time.

With reference to current regulations in the above areas, discuss the reasons why the accountancy profession has been criticised.

  1. Auditing standards are set the Auditing Practices Board whose members are mainly drawn from the members of the auditing profession. The disciplinary procedures applied against an auditor for non-compliance with an auditing standard are enforced the professional bodies of accountants. Thus politicians have criticized this self-regulatory procedure believing it to be open to abuse and lacking independence.

The argument put forward is that the consequences of auditing affect society and therefore in order to ensure that audits achieve social goals, auditing standards should be set an independent body.

 

  1. It is quite apparent from the press and audit research that the public believe that the auditor should and in fact does search for fraud during the conduct of an audit. In view of the recent scandals, particularly BCCI and the Maxwell affair, the public expectation of the extent of an audit has increased. It is not surprising, given the nature of these scandals that the public

finds it difficult to accept that an auditor has no responsibility for the detection and reporting of fraud, especially when one sees the high social cost of these scandals.

 

  • Audit firms do not act exiclusively in the capacity of auditors for their clients. Audit work is in some cases, not the main business of audit firms. Auditors provide many other services to their clients including tax advice, brand name valuation and recruitment advice.

 

Audit firms are dependent upon the fees earned from non-audit services, and this dependency can affect the auditors’ attitude to the audit. If an audit firm loses the audit, the financial loss to the auditors can be significantly more than just the audit fee he provides other services to the client. Thus a significant amount of pressure can he exerted upon the auditor if he supplies other services to the client.

 

A significant amount of an auditor’s fee income derives from non-audit work and in an environment where the audit work is declining; fees for other services are becoming increasingly important.

 

  1. It has been argued that the long term nature of the company audit engagement can lead to a loss in auditor independence due to an increasingly familiarity with the company’s management.

In many Europe countries, the audit appointment has, law, to be terminated after a fixed number of years. If the audit appointment was for a fixed minimum period, then auditors would not be under the same pressure to maintain their client base if they know that their relationship with the company was for a limited period, and that audit appointments would be rotated.

 

 

QUESTION 13

  • Explain the purpose of the three ‘Es’ in relation to a value for money audit.

Economy relates to the attainment of the appropriate quantity and quality of physical, human and financial resources (inputs). at the lowest cost.

Efficiency is the relationship between goods or services produced (outputs) and the resources used to produce them. An efficient process would produce the maximum output for any given set of resource inputs, or would have minimum inputs for any given quantity and quality of product or service provided

Effectiveness is concerned with how well an activity is achieving its policy objectives or other intended effects.

 

  • You are an audit manager in the internal audit department of KLE Co. The internal audit department is auditing the company’s procurement system in the company. Extracts from your system notes which are, correct and contain no errors, are provided below.

Details on ordering department:

  • Six members of staff-one buyer and five purchasing clerks..
  • Receives about 75 orders each day, many orders for duplicate items come from different departments in the organization.
  • Initial evaluation of internal controls is high

Procurement systems

Ordering department

All orders are raised on pre-numbered purchase requisitions and sent to the ordering department. In the ordering department, each requisition is signed the chief buyer. A purchasing clerk transfers the order information onto an order form and identities the appropriate supplier for the goods.

Part one of the two part order form is sent to the supplier and part two to the accounts department. The requisition is thrown away.

Goods inwards department

All goods received are checked for damage Damaged items are returned to the supplier and a damaged goods note completed.

For undamaged items a two-Bart pre-numbered Goods Received Note (GRN) is raised.

  • Part one is sent to the ordering department with the damaged goods notes.
  • Part two is filed in order of the reference number for the goods being ordered (obtained from the supplier’s gbods dispatched documentation), in the goods inwards department.

Ordering department

GRNs are separated from damaged goods notes, which are filed. The GRN is forwarded to the accounts department.

Accounts department:

GRNs matched with the order awaiting the receipt of the invoice.

Required,

Using the system notes provided

identify and explain the internal control deficiencies and provide a recommendation to overcome each deficiency

Internal control deficiency Recommendation
A clerk transfers information from the order requisition to an order form. This could result in errors in orders being made after the buyer has authorized the requisition. The order from should be signed off as authorized to confirm that the details on the requisition match those on the order form
The order requisition is thrown away once the chief buyer has authorized it. Any subsequent queries on orders cannot be traced back to the original requisition. The order requisition form should be retained with the order form in case of query or dispute regarding items ordered.
No copy of the order form is retained the ordering department. This means that goods could be ordered twice in error or deliberately, it also means that queries on deliveries cannot be chased up. A three-part pre-numbered order form should be used and one copy should be retained the ordering department with the requisition-form.
The Goods Inward Department does not retain a copy of the Damaged Goods note. If the note is lost on the way to the ordering department, or there is a query, the Goods Inward Department has no record of goods returned. Four copies of the Damaged goods note should be retained. One copy could be retained the Goods Inward Department, one sent to the ordering department, one to the department who requested the goods, so they are aware that there will be a delay and one to the supplier.
Internal control deficiency Recommendation
The ordering department does not keep a record of goods received, so is unable to confirm which orders are closed or to chase up suppliers The Ordering Department should match orders to GRNs and mark orders as closed once all goods have been received.
The goods inward department files GRNS in order of the supplier’s goods reference. This could make it difficult to find a GRN at a later date if the department is not aware of the suppliers reference GRNs should be filed in number.
Additional deficiency Recommendation
There is no delegated level of authority for authorizing order requisitions – the chief buyer has to authorize all requisitions. This is not an efficient use of chief buyer’s time. A delegated level of authority should be introduced for the authorization of order requisitions.
Purchasing clerks place orders for goods from each individual order and some of these will be for duplicate items: Any volume discounts for ordering bulk items would therefore not be obtained and this shows lack of economy Orders should be reviewed on a daily or weekly basis so that orders for the same item from different departments can be aggregated to take advantage of volume discounts
The copy of the-GRM sent to the accounts department boss via the ordering department which delays the checking of the GRN to the To provide an earlier verification of whether goods relate to valid orders, a copy of the GRN .should be sent directly to accounts.
order. This is insufficient.  
GRN are filed in part number order which will prove inflow when a GRN needs to be located and retrieved as is the GRN number which is most likely to be known (due to cross referencing to invoices for example) GRNs should be filed in GRN number order to make them easier to find
The structure of the department could be improved there is just one buyer and five purchasing clerks. This could cause problems when the buyer is on holiday, sick or leaves permanently. It may indicate inefficiency The department’s staffing Structure should be reviewed with a view to training one of the purchasing clerks to fill the buyer’s role in instances of holiday or sickness.
There is inefficiency communication to the department created the purchase requisition on how the order is progressing. They do not know that their order has been made and would A tracking system should be-developed for orders so that the department that made the requisition can confirm when their goods have been ordered, the expected delivery date and then find out about any problems with the delivery.

Identify and explain the additional deficiencies that should be raised a value for money audit and provide a suitable recommendation to overcome each deficiency.

There is a lack of internal control systems in place but an internal audit department could look at existing procedures and systems and make lots of useful recommendations to tighten up controls, The internal audit department could make lots of useful recommendations in respect of good corporate governance, even though the company is not required to comply with corporate governance guidelines. If the directors did decide to float the company in the future, it would have to comply with such guidelines

The external auditors might be able to rely on internal audit work undertaken the company’s Internal’ auditors and this in turn cGluld result in a reduced audit fee.

The company will have to comply with financial services regulations in the future so an internal audit department could undertake work to ensure that it is complying with all required legislation and regulations.

The presence of an internal audit department within the company would present positive images to clients of the company.

The internal audit department could review the systems in place such as the stock market monitoring system and assess whether upgrades are required.

The internal audit department could provide benefit to the financial accountant, who is net qualified, in the areas of accounting regulations and the internal control system, for example Reasons against an internal audit department

Setting up an internal audit department from scratch could prove expensive in terms of both time and money. The company will incur recruitment costs and the cost of additional staff salaries.

The company does not have to have an internal audit department in place as it is not listed and therefore under no obligation to comply with recommended codes of corporate governance such as the UK Corporate Governance Code.

The company’s shareholders consist of six members of the same family. There is therefore not the same requirement to provide assurance on systems and internal controls as there would be to shareholders in a public company.

Many accounting systems are not necessarily complex so the directors may not see the need for another department to review their operations.

The directors and senior management may feel threatened the presence of internal auditors looking at systems and controls.

 

QUESTION 1

Fadhili Ltd. is a micro-finance company that has been quoted on the securities exchange for the last two years.

The board of directors of Fadhili Ltd, are keen on practising good governance in order to, among other objectives ensure effective risk management in the company.

Required:

  1. Describe five possible risks faced Fadhili Ltd that the board of directors should pay attention to. (10marks)
  • Risks associated with Fadhili Ltd.

Credit risk;- This is defined as the current or prospective risk associated to earnings and capital arising from an obligation to meet the terms or any contract as agreed.

Interest rate risk: The company is exposed to the risk that the value of a financial instrument will fluctuate due to changes in market interest rates as funds are sourced at both fixed and floating rates.

Liquidity risk;-is the current or prospective risk to earnings and capital arising from the company’s inability to meet liabilities as they fall due.

Operational risk: This is associated with human error, system failure and inadequate procedures and controls. It is the risk of loss arising from the potential that;

  • Inadequate informative system:
  • Technology failures.
  • Breaches in internal controls.
  • Unforeseen catastrophies.
  • Other operational problems that may result in unexpected losses.

Currency risk: The Company is exposed to the risk that the value of the financial instruments will fluctuate due to changes in foreign exchange rates.

Political risk: This is the risk of loss when investing in a given country caused changes in the country’s political structure or policies.

Regulatory risk: This is the current and prospective risk to earnings or capital arising from violations of/or non-conformance with laws, rules, regulations prescribed practice ethical standards issued the regulator.

 

Explain three ways in which the board of directors of Fadhili Ltd could promote good governance practices in the company. (6 marks).

  • Ways in which the board of directors of Fadhili Ltd. May promote good governance in the company.

The board should have a formal schedule of matters reserved to it for decision making.

  • There should be a procedure agreed the board for directors in the furtherance of their duties
  • Non-executive directors should be appointed for specified terms subject to election and to the Companies Act provisions relating to the removal of a director and reappointment. All directors should be subject to election board of directors at the first opportunity after their appointment.
  • The directors should conduct a review of the internal control system and report to the shareholders.
  • The board should establish an audit committee of at least three directors all non-executive with duties clearly spelt out.

Highlight four roles of an auditor in ensuring that the boards of directors comply with good governance practices. (4 marks)

  • Review the minutes of the meetings of the board and relevant committees
  • Making enquiries of the directors and company secretary
  • Attending meetings of the audit committee when annual reports and statements of compliance are considered and approved.

 

QUESTION 2

(a) The roles played an audit committee justify the need to set up an audit committee. The roles are follows:

  • Oversight of the company’s financial reporting process and disclosure of its financial information to ensure that the financial statements are correct sufficient and credible. Recommending the appointment and removal of external auditors, fixation of audit fee and also approval for payment of other services.
  • Reviewing with management the annual financial statements before submission to the board.
  • Reviewing with the management, external and internal auditors, and the adequacy of internal control system.
  • Corporate governance compliance.
  • Reviewing the adequacy of the internal audit function, if any including the structure of the internal audit department staffing and seniority of the officials heading the department reporting structure and reporting frequency.
  • Discussion with internal auditors any significant findings as follow-up thereon.

Reviewing the findings of any internal investigation the internal auditors into matters where there is suspected fraud or irregularity.

  • Discussion with external auditors before the audit commences on nature and scope of audit as well as post audit discussion on areas of concern.
  • Reviewing the company’s financial and risk management policies.
  • Carrying out any other function as mentioned in the terms of reference of the Audit Committee.

 

QUESTION 3

Define the term Comitte

  • The term audit committee means a committee (or equivalent body) established and amongst the board of directors of an issuer for the purpose of overseeing the accounting and financial reporting procedures of the issuer and audits of the financial statement of the issuer
  • The salient features of a qualified and independent audit committee are;-
    • The audit committee shall have minimum three directors as members. Two- thirds of the members of audit committee shall be independent directors.
    • All members of the audit committee shall be financially literate and at least one member shall have accounting or related financial management expertise.
    • The chairman of the audit committee shall be an independent director.
    • The chairman of the audit committee shall be present at annual general meeting to answer the shareholders queries.
    • The company secretary shall act as secretary to the committee
    • The audit committee may invite executives of the company, as it considers appropriate to be present at the meetings of the committee, but on occasions it may also meet without the presence of any executives of the company. – Head of internal audit should be a member.

QUESTION 4

With reference to International Standard on Auditing (ISA) 260: Communication with those charged with governance, explain the four objectives of the auditor’s communication to those charged with governance

Objectives of the auditor’s communication to those charged with governance.

  1. To communicate auditors responsibilities in relation to the financial statement audit, the overview of the plan scope and timing of audit.
  2. To request the client to provide information and explanation required for the purpose of audit e.g. representation on subjective areas.
  3. To provide auditors observation arising from the audit which are significant to management responsibility on financial reporting process e.g. irregularities detected in financial statement.
  4. To communicate matters relating to the weakness on internal control.
  5. To enable the auditor to obtain the ‘findings of audit report issued (feedback).

 

QUESTION 5

Analyse the factors affecting the evolution of the role of the audit committee from traditional financial review towards oversight responsibilities.

Evolution of the role of the audit committee

  • Traditionally, the focus of the audit committee was on historical elements of corporate reporting through its review of annual financial information, mainly the company’s financial statements. For several years, the audit committees of publicly traded companies have been under pressure to be accountable in their role as financial stewards.

It is no longer enough for the audit committee to focus its attention solely on the past. The paradigm shift for the audit committee comes when it focuses on the future being attuned to organizational changes that can affect overall control and risk management process.

  • The audit committee must also play a preventive role in a company’s management control system and ensure that proper attention is paid to control tools and policies that will prevent financial or operational disasters.
  • There has been an erosion of confidence in the process of corporate financial reporting and auditing. This has placed pressure on corporate management for increased responsibility, accountability and supervision. Audit committees have evolved from informal committees with few defined responsibilities to what they are today – critical committees with growing responsibilities. In recent years, the roles assigned to audit committees have been given greater importance cases of corporate impropriety, financial market crisis, management fraud and bank failures which have received widespread publicity.
  • Moreover, the changing corporate globalization environment has required that more attention be paid to discovering irregularities and detecting fraud, taking into account that the audit committee must adopt a professional approach and be objective in the discharge of its objective/responsibilities. As a consequence, the responsibility of the audit committee is also to provide assurance that the corporation is in reasonable compliance with the relevant laws and regulations, is conducting its affairs ethically” and is

maintaining effective control over conflict of interest with the organization

  • Consideration changes are occurring in the audit committee approach, which was previously limited to providing reference material and guidance
  • Given the technological progress, for instance, the advent of the internet users or corporate financial reporting are also much more attuned to environmental changes.
  • This requires that members of audit committee should focus more on the corporate disclosures of more timely and transparent information. The members of the audit committee are required to exercise scrutiny as part of overall diligence.

 

QUESTION 6

You are the audit manager in the audit firm of Turu & Feya Associates, Certified Public Accountants

One of your clients is Sipoting Ltd, a company specialising in the manufacture and supply of spoting equipment. The company has been your audit client for several years and you have been the audit manager for the past four years. The audit partner who reviews the audit working files of Sipotin2. Ltd. has remained unchanged.

You are now planning the audit for the year ended 31 December 2000. Following an initial meeting with the directors of Sporting Ltd, you have obtained the following information:

  1. The company is attempting to obtain a listing on the stock exchange, The directors have established an audit committee, as required the corporate governance regulations issued the Capital Markets Authority. However no further action has been taken in this respect. Meanwhile, the information on the listing has not yet been made public.
  2. You have been assigned to prepare the company’s financial statements as in previous years.
  • As the company’s auditors, you and the partner have been invited to attend an evening reception in an upmarket hotel where Sipoting Ltd. will present its listing arrangements to banks and existing major shareholders.
  1. Your firm also acts as tax advisors to Sipoting Ltd. You have been advising the company regarding the legality of certain items as “allowable” for taxation purposes. The revenue Authority is disputing these items.
  2. Finally, you have just inherited 6 % of Sipoting Ltd ‘s issued share capital on the death of a close relative.

Required:

Explain why your audit firm will need to communicate with the audit committee of Sipoting ltd. for the current and future audits.

  • The audit committee is charged with the responsibility of reviewing the internal control procedures. The auditor needs to be in constant communication with the audit committee advising them on shortcomings of the internal controls and making recommendations where possible while the audit committee looks at the implementation of any controls and advising the auditors on any new controls that arc implemented.
  • The audit committee provides an independent reporting channel for the internal audit function which is critical to the external auditor when it comes to audit of financial statements.
  • The external auditor is accorded an opportunity to discuss problems and other issues relating to the audit.
  • The audit committee is responsible for agreeing the scope and nature of work to he carried out the external auditors, hence the need to continuously liaise with them.

Explain the actions that the board of directors of Sipoting Ltd. must take in order to meet corporate governance requirements for the listing of the company.

  • Independence and oversight or auditors should be ensured. The firm should understand that the auditors need to be as independent as possible for them to be .able to remain as objective as possible in their work.
  • Establishment of a two tier board or full board of directors.
  • The audit committee needs to be given power to act as it becomes effective in its operations. The mere forming of the audit committee is not sufficient. It needs mandate to act. The audit committee should be staffed with non-independent non-executive directors.
  • Evidence that the firm is keen hnd also safeguards the interests of stakeholders, since corporate failure disadvantages all and only competitors stand to gain.
  • The management needs to ensure that there is a sound system of internal controls.

Identify and explain the relevance of any five factors which might threaten the independence of Turu & Feya’s audit of Sipoting Ltd.’s financial statements for the year ending 31 December 2010 and suggest how the auditors could mitigate against each of the threats.

  • Familiarity threat

The audit manager has worked on this engagement for four years. This might lead to a sympathetic relationship between the auditors and the client.

To mitigate this risk there is need to rotate the audit staff especially the audit partners and the audit manager to ensure they do not become too familiar with the client.

  • The audit manager has a direct financial interest in the firm since he just inherited some 6% of Siporting Ltds share capital. This is likely to make the auditor act in a manner as to safeguard his investment or could use information obtained during the audit for self-gain. To mitigate this he should step clown as the audit manager or dispose the shares held in Siporting and disclose this fact adequately.
  • The auditors’ offer tax services to the firm, the tax authorities have disputed some of these figures although it is not explicitly stated Siporting may be hesitant to pay the auditors their fee. This creates undue influence on the auditors and their independence is impaired. The auditors are also .faced with the threat of self-review since they will be expected to audit the tax amount later.

The audit firm should consider declining this engagement and only focus on audit work.

  • Self-review threat.

The auditors offer more than one service to the client that all relate to the final audit of financial statements. The auditors prepare the financial statements, offer taxation services among other services. The auditor oannot objectively expose his own failures or errors during the audit of work that he did.

The auditors should drop some services and concentrate on offering a particular service only so as to reduce the threat on self-review which impairs their independence.

  • Advocacy threat

The invitation to attend an evening reception where the listing arrangements will be presented to banks and other shareholders will create an advocacy threat on the part of auditors as they will seem to provide an assurance on some of the documents presented during the reception.

The auditors should turn down the offer to attend the reception and clearly provide a statement disclaiming liability in case any of their work is relied upon other than the firm to make a decision about the firm, be it investment or otherwise.

 

QUESTION 7

You are the internal auditor of Katumani Contractors Ltd,a construction company with large scale contracts in Eastern Africa including some parts of Southern Sudan.The company has recently established an audit committee, whose members are very concerned about meeting corporate governance “best practice “particularly because the company is considering listing on the stock exchange.

You have been asked to conduct a review of how well the company is meeting relevant corporate governance requirement:

Required:

Briefly explain the term “Corporate governance”

Corporate governance refers to the system which companies are directed and managed. It’s concerned with the systems and structure that are put in place to ensure accountability, responsibility and transparency in directing the affairs of the firm. (Role of audit committee in corporate governance

Describe the respective roles of the audit committee and the internal auditor with respect to corporate governance in organisation.

  1. Review the interim and annual financial statements before submission to the board particularly focusing on: –
    1. Any changes in accounting policies
    2. Major judgmental area such as accounting estimates e.g. provision •
    3. Significant adjustment arising from the audit.
    4. Going concern assumption.
    5. Compliance with accounting standards and other legislations.
  2. Consider and recommend the appointment, remuneration and questions on dismissal or resignation of the external auditor.
  3. To discuss with the external auditor the audit on the ration and scope of the audit and to ensure coordination where more than one audit firm may be involved.
  4. To discuss problems and reservations arising from the interim and the final audit and any matters the audits may wish to raise and this may be done in the absence of the executive directors
  5. To review the external auditor’s management letter and the management responses.
  6. Where there is an internal audit function the account reviews the entire audit programme and ensures there is coordination between the external and internal auditor.
  7. Provide the external auditor with a channel of communication and to be available for consultation.
  8. Monitor the progress of the audit and to ensure that it’s conducted in an independent manner.

Internal audit

  1. Review compliance with the laws which are crucial to corporate governance
  2. Internal audit has the responsibility of carrying out investigations within the firm on matters of fraud.
  3. Risk assessment within the firm
  4. Reviewing non-financial controls to ensure interests of stakeholders are considered

 

QUESTION 8

You are the audit manager in the audit firm of Dark and company. One of your audit clients is Notary Ltd., a company specialising in the manufacture and supply of sporting equipment. Notary Ltd. has been an audit client of Dark and Company for four years and you have been the audit manager for the last two years. The partners of Dark and Company have not changed in the four years.

You are planning the audit for the year ending 3 i October 2009.you held an initial meeting with the directors of Notary Ltd. The following matters are relevant to the audit or Notary Ltd.

  1. Notary Ltd. is attempting to obtain a listing on the stock exchange. The directors have established an audit committee as required the corporate governance regulations, although no further action has been taken in this respect. The information on the listing is not yet public knowledge.
  2. You have been requested to continue to prepare the company’s financial statements as in the previous years.
  • As the company’s auditors, Notary Ltd. would like you and the audit partners to attend an evening reception in a hotel where Notary Ltd. will present their listing anangements to the banks and the existing shareholders.
  1. Notary Ltd. has indicated that the fee for taxation services rendered in the financial year ending 3 3 October 2009 will be paid as soon as the tax authorities have confirmed the • company’s taxation liability. You, have been advising Notary Ltd. regarding the legality of certain items as “allowable deductions” for taxation purposes and the tax authority is disputing these items.

Meanwhile, YOLI have jast inherited about 5 % of notary Ltd.’s share capital as an inheritance in the death of a distant relative who owned shares in Notary Ltd. Required:

  • Explain threats to the independence of Dark and Cornpany in auditing the financial statements of Notary Ltd. for the year ending 31 October 3009 and suggest how the audit firm may mitigate against each threat.
  • Advocacy threat

It is likely to be created if the auditor attends an evening reception where listing arrangements will be presented to the bank and other shareholders,

To mitigate against this the auditors should not honour the invitation:

  • Direct financial interest

The audit manager has inherited some 5% of Notary’s share capital. He therefore has direct financial interest in the firm. He may thus act in a manner as to safeguard his interests.

To mitigate against this risk he should step down as the audit manager or dispose the shares held in Notary and disclose this fact adequately.

  • Undue influence.

Notary has made it clear that they will only pay the firm the fee for taxation services after the tax liability is confirmed with the tax authorities. This is a concern to the auditors because they may or may not lose the client. The auditors’ independence is impaired due to undue influence. This can be mitigated the auditors receiving a percentage of the fee prior to commencement of the job and other percentage paid upon completion of the job.

  • Self-review threat

On the part of the auditors since they offer more than one service to the client that all relate to the final audit of financial statements. The auditors prepare the financial statements, offer taxation services among other services. The auditor cannot objectively expose his own failures or errors during the audit of work that he did.

The auditors should drop some services and concentrate on offering a particular service only so as to reduce the threat on self-review which impairs their independence.

  • Familiarity threat
    • The partners have served for four years and the audit manager has worked on this engagement for two years. This might lead to a sympathetic relationship between the auditors and the client as a result of familiarity.
    • To mitigate this risk, there is need to rotate the audit staff especially the audit partners and the audit.
  • Recommend the actions that the board of directors of Notary Ltd. should take in order to meet the corporate governance requirements for the listing of Notary Ltd.
  • Corporate governance is the process and structure used to direct and manage the business and affairs of the corporation with the objective of enhancing shareholder value, including ensuring the financial viability of the business, while taking into consideration the interests of other stakeholders.
  • The firm needs to undertake the following actions
    1. Ensure the independence and oversight of auditors. The firm should understand that the auditors need to be as independent as possible for them to be able to remain as objective as possible in their work.
    2. The audit committee needs to be given power to act as so as it becomes effective in its operations. The mere forming of tile add it committee is not sufficient and needs mandate to act. The audit committee should be staffed well with independent non-executive di rectors.
    3. The management needs to ensure that there•is a sound system of internal controls. The management should also have evidence about the adequacy of the design and effectiveness of internal controls including their implementation and operation.
    4. The management should put in place explicit sign off procedures of financials the CEO
  • Explain why it would be necessary for the audit firm to liaise with the audit committee of Notary Ltd.
  • The audit committee is charged with the responsibility of reviewing the internal control procedures. The auditor needs to be in constant communication with the audit committee advising them on shortcomings of the internal controls and making recommendations where possible while the audit committee looks at the implementation of any controls and advising the auditors on any new controls that are implemented.
  • The audit committee provides an independent reporting channel for the internal audit function which is critical to the external auditor when it comes to the audit of financial statements.
  • The audit committee is responsible for agreeing the scope and nature of work to be carried out the external auditors, hence the need to continuously liaise with them.
  • The external auditor is accorded an opportunity to discuss problems and other issues relating to the audit and other issues that the auditor may wish to discuss with the audit committee.

 

QUESTION 9

You are the internal audit manager of Faida Investment Ltd, a large company dealing in real estate and equity investment. The company has four executive directors and seven non-executive directors.

The chairman of the board of directors of the company is keen to establish an audit committee in order to enhance corporate goVernance in the management of the company. The chairman has requested the Managing director of the company to prepare a report on audit committees for presentation to the board of directors in their meeting.

Required;

Prepare a report to the managing director which should contain the following details;

  1. The objectives of an audit committee and the recommended composition of the audit committee of the company.
  • To improve the quality of financial reporting e.g. reviewing the statements.
  • To create a climate of discipline and control which will reduce the chance of fraud?
  • To help the finance director providing a forum in which he can raise issues of concern.
  • To provide a framework in which the external auditor can assert his independence incase of a dispute with the management.
  • To strengthen the position of the internal audit function providing a greater degree of independence.
  • To increase public confidence in the objectivity and credibility of the financial statements.

The functions of audit committee

  1. Review the interim and annual financial statements before submission to the board particularly focusing on: –
    1. Any changes in accounting policies.
    2. Major judgmental area such as accounting estimates e.g. provisions
    3. Significant adjustment arising from the audit
    4. Going concern assumption.
    5. Compliance with accounting standards and other legislations.
  2. Consider and recommend the appointment remuneration and questions on dismissal or resignation of the external auditor.
  3. To discuss with the external auditor the audit on the ration and scope of the audit and to ensure coordination where more than one audit firm may be involved.
  4. To discuss problems and reservations arising from the interim and the final audit and nay matters the audits may wish to raise and this may he done in the absence of the executives directors.
  5. To review the external auditor management letter and the management responses,
  6. Reviewing the management’s statement of ICS
  7. Where there is an internal audit function the account reviews the entire audit programme and ensures there is coordination between the external and internal auditor.
  8. Provide the external auditor with a channel of communication and to be available for consultation.
  9. Monitor the progress of the audit and to ensure that it’s conducted in an independent manner
  10. Review major finding of internal investigations and the management responses e.g. suspected fraud.
  11. Assist the executive director in the strategic director of the company:
  12. Advice the board on the best practices to be adopted so that the company can achieve its objectives.

The advantages and potential pitfalls of an audit committee

  1. By virtue of its existence the audit committee makes the executive directors be aware of their duties and responsibilities.
  2. The audit committee could be a deterrent to commission of illegal acts executive directors and may discourage them from behavior in ways which is pre-judicial to the interest of the shareholders. iii) They enhance the efficiency and effectiveness of the company operations. They enhance the credibility and trust that company be placed on the financial statements.
  3. They strengthen the independent position of the external auditor.
  4. They improve communication between directors, auditors and management in general.
  5. They strengthen the role of the non-executive directors. vii) They improve the quality of the accounting and the internal audit function. viii) Where illegal prejudicial acts have been carried out the executive director. The audit committee provides and independent body to which the auditor can turn. In this way the problem can be resolved without the auditor having to review the matter to the shareholder either in the report or the annual twneral meeting.

Disadvantages of the Audit Committees

  1. They lead to increase operational cost.
  2. They are difficulties in selecting sufficient non-executive directors.
  • it may encroach on the managements responsibility. iv) It may split the board al-1g create conflict within the organization.
  1. They will be powerless if they cannot enforces their recommendations or reports.
  2. Since the finding of the audit committees are rarely made public it’s not always what clear what they do or how effective they have been in doing it.
  • Established and formalized reporting procedures in the company may dissuade the auditor from raising matters on judgement and only report on matters of fact.

The working relationship between an audit committee and the external auditors of a company .

  • The audit committee minimizes the audit risk. This is because the one of their duties is to consistently monitor the effectiveness of the IGS :Hid they also strengthen the internal audit function.
  • The audit committee discusses any intended qualification in the audit report with the external auditor.
  • The committees discuss any problems in the accounting problem of contagious issues with the auditors.
  • The committee discusses the contents of the management letter with the external auditor,
  • ‘Ile audit committees provide a forum of liaison between the external auditor and the finance director,
  • The committee helps the auditor obtain information that he requires and resolves any problem that they may encounter.
  • The committee deals with any serious reservations the auditor may express about records, the control environment, accounts, information published in the accounts and the quality of the company management.
  • The audit committee recommends the appointments and remuneration of the external auditor.
  • The committee also reviews the dismissal and resignation of the external auditor.
  • It discusses with the external auditor at the start of the audit on the nature and the scope of the audit

 

QUESTION 10

  1. Corporate governance has become an issue of world-wide importance. In furtherance to corporate governance, audit committees have been established various companies.

Required:

Explain six ways in which the establishment of an audit committee would assist in improving the effectiveness of external audit work.

  1. The ban on advertising of accountancy services in Kenya is not sustainable. Discuss.
  2. The auditors have a legal duty to their clients. This legal duty appears to have, of late, been extended to cover third parties not in direct contractual relationship with the auditors.

State specific actions an auditor or an audit firm should take to minimise liability deriving from audit risk.

 

 

QUESTION 11

In an attempt to improve Corporate Governance of companies in Kenya banks and listed companies are now required to have audit committees.

Explain the composition and the role of audit committees and offer suggestions as to how their role can be strengthened.

The composition of the audit committee.

It is recommended that a majority of the non-executive directors on the committee should be independent of management. The notion that the non-executive members of the audit committee can be suitably independent may be difficult to achieve.

The main objectives usually associated with audit committees include;

    1. increasing public confidence in the creditability and objectivity of published financial information including un audited interim statements
    2. Assisting directors (particularly non-executive directors) in meeting their responsibilities in respect of financial reporting
  • Strengthening the independent position of a company’s external auditor providing an additional channel of communication.

An audit committee has various responsibilities which include:

  • Review of a company’s internal control procedures
  • Review of the internal audit function. The audit committee providing an independent reporting channel
  • Review of the company’s current accounting policies and possible changes resulting from the introduction of new accounting standards
  • Review of regular management information (e.g. monthly management accounts).
  • Review of annual financial statements presented to the shareholders
  • Review of the results of the external auditor’s examination to ensure that the auditors have performed an effective, efficient and independent audit.
  • Procedures for reviewing published interim (preliminary) statements, draft prospectus, profit forecasts etc.
  • Receiving and dealing with external auditors. Criticisms of management and ensuring that recommendations of internal and external auditors have been implemented.
  • Recommending nomination and remuneration of the external auditors.

 

The relationship between the audit committee and the external auditor should be close such that the auditor should have unrestricted access to the committee. The auditor should present his findings regarding any fraud involving the management to this committee. Ideally the audit committee should comprise of persons who have a suitable range of professional and business skills, sufficient knowledge of the business and yet have not developed close relationships with the main board.

They should have had no recent actual movement with the direct management of the organization, thus their judgment should be impartial free from influence and therefore unbiased.

 

QUESTION 12

If there is a need for a uniform set of international accounting standards and international auditing standards, there is also a need for global corporate governance standards.

Required:

Discuss and reach a conclusion.

The OECD (Organization for Economic Cooperation and Development) and World Bank are actively involved in initiatives to promote corporate governance practices (e.g. holding an annual forum on the subject). In 1999, the OECD issued a set of Corporate Governance principles which, although non-binding, reflect the concepts of:

  • The rights of shareholders
  • The equitable treatment of stakeholders
  • The role of stakeholders
  • Disclosure and transparency; and
  • Board responsibilities

These principles are now being promoted as framework for dialogue and consultation with emerging and transition economics with the aim of improving corporate governance practices. Further in June 2000 OECD issued governance guidelines for multinationals that provide voluntary principles and standards for responsible business consistent with applicable laws. The International Forum on Accountancy Development (IFAD) is an initiative of IF AC and the World Bank. Its vision is to achieve a rational framework of reporting on the performance of economic entities, which serves the objectives of issuers and users across the world. This vision calls for inter alia, improving corporate governance practices using the OECD principles of corporate governance as a point of reference.

Need for IASs

The need for a uniform set of international accounting standards to provide for the transparency and consistency of financial reporting is evident in that IOSCO (the international organization of securities commissions) endorsed 30 International Accounting Standards for cross border listings.

Although these are not (yet) global standards, it is envisaged that IASs will become the international (i.e. global) standards and will not require reconciliation to US GAAP.

Needs for ISAs

The auditing profession plays a key role in both national and international regulation and the development to transparent international standards on auditing (ISAs) provides a high level of assurance on the reliability of financial reporting.

ISAs and International Auditing Practice Statements (IAPSs) have been formulated IFAC through its international auditing practices committee (IAPC). A significant number of IFAC members use the ISA as a basis for developing their own national standard. IAPC is now working with IOSCO for endorsement of ISAs.

Need for corporate governance standards

Corporate governance may be defined as the ethical corporate behavior directors or others charged with governance in the creation of wealth for all stakeholders. It is about how these persons:

  • Provide stewardship over the business of an entity to achieve corporate objectives: • Balance the corporate objectives with the expectations of society; and
  • Provide accountability to stakeholders.

The need for governance has increased as primary stakeholders have become more removed from management and the control of the entities they own. The use of outside directors in governance roles has been shown to provide protection to entity stakeholders. The growth of global capital markets and the significant frauds which are being perpetrated in these markets has put this need on a global scale.

Corporate governance can counter financial statement fraud, corruption and money laundering.

If investors are to invest, stamping out corruption (for example) is important. An infrastructure is therefore needed for regulation, corporate governance disclosure and transparency.

The importance of the role of corporate governance is reflected in the IAPCs (SA 260. Auditors are required to communicate audit matters of governance interest to those charged with corporate governance on a timely basis. That the ISA requires the auditor to identify those responsible for governance, when the entity has not, emphasizes the need for governance systems to be established.

It has widely been reported that had corporate governance and public governance existed in Southeast Asia, then the economic crises that occurred in 1997 may have been avoided (because the speculators would not have such a free hand as they did).

Arguments for global corporate governance standards

Corporate governance on a national basis is appropriate when investing and financing companies is on a national basis. However, a set of global rules should be applicable, as a minimum, to entities listing shares or obtaining financing in the public capital markets outside of their national boundaries.

Requiring companies who participate in global capital markets to -follow global rules will provide greater protection to global investors. Corporate governance will still be required at a national level.

The use of Global Shares global business enterprises .increases the need for corporate governance rules to be global. Global shares (i.e. the same form of shares for listing in a home country and a non -home country) enable virtually seamless cross border trading. As their use becomes more widespread, global stakeholders will need higher quality global accounting auditing and corporate governance standards.

Regulators are national, not international, so international consistency is needed to avoid regulation arbitrage. Global standards are necessary because national and international standards will not converge of their own volition. Local subsidiaries of international groups tend to be content (e.g. on cost grounds) to comply with lower local standards (e.g, accounting and auditing) and not adopt the higher standards of their parent’s location.

Companies in some countries (e.g. ill India) have been advised not to globalize until there is a framework for good corporate governance. It is therefore asserted that global standards are key to developing countries’ prospects for sustainably mobilizing capital for economic growth. Developing countries can further benefit imitating the models and Systems of another – rather than incurring the costs of developing their own models.

There does not have to be a “one size fits all” approach to global standard because there are universally recognized standards that can provide benchmarks (e.g. responsibility, accountability, fairness and transparency). If universal principles of transparency and objectivity (for example) can support international accounting and auditing frameworks, then a global corporate governance model can cater for different legal structures and cultural identities.

OECDs voluntary code provides a point of reference for multinationals, which are encouraged to:

 

  • Contribute to economic, social and environmental progress
  • Respect the human rights of those affected their activities
  • Encourage local capacity building
  • Encourage human capital formation (e.g. creating employment opportunities and through training programs)
  • Refrain from seeking/accepting exemption from environmental, health and safety, equal opportunities and labor legislation, etc..
  • Support and uphold good corporate governance (principles and practices)
  • Abstain from improper involvement in local political activities

Arguments against global corporate governance standards

Development of corporate governance and its implementation needs to be at a rational level because regulators are national and it is not appropriate, given the need to respect diverse cultures and legal structures, to prescribe a global standard.

For example:

  • Concern in the US is for increasing shareholders value
  • Continental Europe’s economic philosophy is creating employment
  • In Japan companies work with the government towards the national strategy

Many people fear that global corporate governance standards may attempt to impose an Anglo American business model on developing countries. Corporate governance and the composition of boards should suit the local business environment to encourage economic success.

JAPC has established as a principle that auditors determine the relevant persons who are charged with governance responsibilities. However, that there may be no such persons suggests that the needed for governance is not yet proven at a national level.

Global standards are necessary because they emerge eventually a natural process of convergence. For example, International Financial Reporting Standards (IFRSs) have been issued the international Accounting standards board in place of separate international accounting standards (1ASs) and UK Financial Reporting Standards (FRSs) since the end of2001

.International standards are not global standards. If accounting and auditing standards have only reached an international level then the need for corporate governance standards at the present time is only international not global.

Conclusion

A global corporate governance framework is essential for high quality financial reporting and auditing standards to be interpreted used and enforced consistently throughout the world.

Alternatively

Accounting standards have been implemented on a nation-by-nation basis before the international acceptance IOSCO of international accounting standards. Auditing standards are following suit. The OECD principles are very general and as the need for global corporate governance standards is apparent, the initiatives to create them will continue to emerge.

 

 

QUESTION 13

Becher Construction

Becher are a major independent construction company, dealing with large scale contracts throughout Kenya and with some international interest in Africa, particularly in Uganda. Becher have recently established an audit committee whose members are very concerned about meeting corporate governance ‘best practice’, particularly since they are currently looking at obtaining a stock exchange listing.

You are an internal auditor with the company and have been asked to conduct a review of how well the company is meeting requirements.

You are required to prepare a report that addresses:

Becher Construction

 

  Report
To: Audit Committee Becher Construction
From: Internal Auditor
Date: xxxxxxxx
Subject: Meeting Corporate Governance ‘Best Practice’

What is corporate governance and why are corporate governance requirements important?

Corporate Governance concerns the ways that a company is operated and directed: It encompasses the following key aspects:

  • Operation of the Board and Audit Committee
  • Overall control and risk management framework

Corporate Governance has become increasingly important to all organizations, particularly those with a stock exchange listing which are subject to the requirements of the Combined Code, Cadbury and Turnbull reports.

The Turnbull requirement requires that companies have an ongoing process for identifying, evaluating and managing the company’s key risks that it is regularly reviewed the board and accords with guidance. Breach of these requirements could result in not only qualification in the annual accounts but damage to the company’s reputation.

What are the key issues for Becher to address to achieve effective corporate governance?

Becher need to ensure that the following key requirements are met:

  • Evaluate risks within the organization, The key risks across the organization need to be identified, measured and reported. In many organizations, this has involved identifying the top 20 or so risks, which are then fully co-ordinated the Board and Audit committee.
  • Consider the nature and extent of the risks regarded as acceptable. There needs to be a clear understanding of the ‘risk appetite’ of Becher as well as the nature and extent of the top risks.
  • The threat of such risks realizing assessing both the impact and likelihood.
  • The ability to reduce incidence and impact if risks arise. This will include a review of the appropriate contingency arrangements are in place.
  • sts and benefits relating to operating relevant controls will need to be considered.
  • Corporate Governance concerns the culture of the organization not just from its-risk appetite but also the risk awareness and understanding across the organization. The
  • Board and Audit Committee need to asset the tone and appropriate supporting mechanisms need to be in place, including appropriate training, policy and procedures.
  • Regular reporting to demonstrate that risks are being managed on an ongoing basis.

What is the role of internal audit in achieving corporate governance compliance?

Turnbull says that an objective and adequately resourced internal audit function should be in a position to provide the Board with much of the assurance it requires regarding the effectiveness of the system of internal control.

Internal Audit’s main role is normally to evaluate risk and monitor the effectiveness of the system of internal control. Turnbull sets out the requirements for an organization and these have a key bearing on how internal audit should operate.

The role of internal audit will depend on the nature and type of organization and what other risk type functions are in existence within the company.

Key steps for internal audit will be to:

  • Review the companies measures to achieved corporate governance
  • Ensure that Internal Audit’s operation is consistent with the major risks facing the organization produce analysis and opinions of the effectiveness of the organization’s control mechanisms, including regular information to the Board and Audit Committee.
  • What should the role of the audit ‘committee be in demonstrating corporate governance.

The role and importance of the Audit Committee has increase as the corporate governance requirements have increased. The audit committee must have at least three non-executive directors.

The audit committee should:

  • Assess the framework for corporate governance within the company, including the risk policies and measures being taken to achieve requirements
  • Review the top 20 risks established, including the impact and likelihood
  • Require regular reporting from internal and external audit and any other review bodies, showing how the risks are being managed
  • Received and review internal audit assignment reports and follow up information
  • Discuss and consider any concerns of directors and internal audit
  • Review annual financial statements and the result of the external auditors’ examination to ensure that the auditors have performed an effective, efficient and independent audit.
  • Receive and deal with external auditors’ criticism of management and ensure that recommendations of internal and external auditors have been implemented.

List the types of regular reporting that would be useful for Becher

Types of regular reporting that could be: produced for the audit committee include:

  • Listing of current top risks and up-to-date assessment of impact and likelihood
  • Reports on control risks including how they are being managed
  • Details of nay issues/concerns that have arisen
  • Audit reports issued and impact on corporate governance
  • Information on follow up on outstanding risks and findings from reports

 

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