Private Incentives And The Regulation Of The Audit Essay


Dsicuss about the Private Incentives And The Regulation Of The Audit.



The main purpose of this assignment is to analyze the situations given in the assignment and determine whether they impact the independence and objectivity principle of the auditor (Arens, Elder and Mark 2012). Audit is an independent process whereby the books of accounts are examined in order to establish whether the books of accounts are showing true and fair view or not. For effectiveness of an audit procedure it is essential that the auditor is independent and free from the management and also that the auditor is following all the ethical standards which are required. In the development of ethical standards, the International Ethics Standard Board for Accounts (IESBA) plays a vital role. The role of an auditor is to ensure that the financial statements represents true and fair value and also conduct the audit following the principles of objectivity. As per IESBA, the role of the auditor is to also ensure that the ethical standards during the course of an audit. The assignment requires to provide safeguards which can be used to ensure that the principle of objectivity is not violated. The assignment will also be suggesting measures which can improve the situation which can affect the objectivity and independence principle of an auditor.

Role of International Ethics Standard Board for Accountants

International Ethics Standard Board for Accounts (IESBA) is an international board which is engaged in developing ethical standard which can be of some guidance and help to accounting professionals. The standards which are developed by IESBA are universally applicable. The standards are developed considering the ethical aspect in accounting environment for accounting professionals and the standard can apply to all professionals whether in public services or private or educational sectors (O’Leary and Stewart 2013). The role which is played by IESBA in the accounting environment are discussed below:

  1. IESBA develops ethical accounting standard for professionals while taking the inputs which are collected in public interest and incorporate such data in formulating a standard which can be universally applied.
  2. The board contributes in making the accounting profession strong and also introduces such standards which inspires professionals to act in an ethical manner with integrity and objectivity.
  3. The board is responsible for the setting the fundamental standards which are to be followed by accountants for meeting the ethical obligations which are necessary.

The functions which are performed by IESBA are discussed below:

  1. The board performs the function of maintaining the ethical requirement which is necessary in accounting environment by professionals.
  2. The board issues different standards for combating problems which are related to different ethical problems faced by accounting professional all over the world.
  3. The board issues guidance which are associated with quality performance which can lead to an overall development of the business as a whole.

Factors Influencing Objectivity Principle

The concept of Objectivity states that auditing decisions should not be influenced by undue influences from the management, conflicted interests and related parties and similar other factors. In other words, the auditor should not be biased in any way and his judgement should be independent of any external influences (Rose, Rose and Norman 2013). The principle of objectivity is closely related to the concept of independence of an auditor and is one of the fundamental principles of audit as per codes of ethics of IESBA. As per the assignment the factors which influences the principle of objectivity are to be identified and various safeguards are to be suggested for the same for a medium sized firm.

Undue Financial Dependence on Client

A situation of undue financial dependence on a client arises when the recurring income which the auditor is able to generate from the services which it provides to the client does not exceed 10% of the income of the auditor (Mullainathan, Noeth and Schoar 2012). In other words, if the auditor obtains more than 10% of his recurring income from the client than it will be considered as an financial dependence on the part of the auditor on the client.

  1. Threat: The threat which is created by such a financial dependence of the auditor on the client is immense. Due to the financial dependence of the auditor, the principle of objectivity of the auditor is hampered. The audit report which is issued by the auditor will be impaired as the auditor will be of the opinion that the auditor will not be able to earn the fee if the auditor issues a qualified or adverse report and thus the overall opinion of the auditor will not be unbiased or free.
  2. Potential Consequences: The most important consequence of the undue influence of financial nature on the auditor can lead to violation of the principle of objectivity which is one of the fundamental objectives of audit. The auditor judgement may be clouded by the fees which the client is paying and thus affecting the opinion of the auditor and the overall audit process.
  3. Recommendations: In the case which is given above, when the fee income from the client exceeds 10% of the fees then the auditor should not conduct the audit of that company any longer as it is likely that the opinion of the auditor will not be free due to undue financial dependence on the client. The safeguards which can be taken in such a situation are internal quality control reviews to ensure that the opinions of the auditor are not biased (Abbott, Parker and Peters 2012). Another thing which the auditor can do is that he should reject the audit engagement of such a client and does not accept then audit to ensure the overall quality of the audit.

Financial interest in Client

Financial Interest can be on the equity or other securities and includes rights and obligations to such interest in the company. Financial interest can be owned directly or through the financial interest of the intermediaries (Nicolaescu 2013). This influences the decisions of the auditor as the auditor has a financial interest in the client.

  1. Threats: In such a circumstance the major threats which are associated with the audit are related to judgement of the auditor. In such a situation the judgement of the auditor is clouded by the financial interest in the client’s company. The audit opinion will not be free or based on clear judgement of the auditor and there are potential audit risks in such a situation.
  2. Consequences: The audit opinion which is formed on the client where the audit firm or partner have financial interest will not be on clear judgement of the auditor. This can lead to potential audit risks which are that some audit elements might be overlooked by the auditor which are material and may influence the audit opinion but the auditor due to the financial interest in the client company.
  3. Recommendations: In such a situation the auditor must first of all are under the obligation to reject the audit engagement where ever the auditor feels that his financial interest can hamper the overall quality of audit or the audit opinion as per the provisions of audit in Ireland. If the auditor is already engaged in the audit of the client and acquire certain financial interest in the client’s business then as per the requirement the auditor must withdraw the audit engagement of the client as this is the only way to ensure that the process of audit is conducted independently and without any undue influences of financial interests (Blay and Geiger 2013).

Family ties or Close Relation between the audit firm and client

In this situation the auditor is closely related to the client on whose business the auditor is conducting an audit. As the auditor is closely related to the client therefore the opinion of the audit is likely to be influenced by the family ties which the auditor holds with the client (Svanberg and ?hman 2015).

  1. Threats: The threats which are associated with the auditing of a client which is a family member or closely related to the auditor then there is risks of material misstatements or omission in the financial statements which may be overlooked by the auditor (Lobo and Zhao 2013). Moreover, there are threats of intimidation, self-interest and familiarity. Moreover, there is a threat to the fundamental principle to independence of the auditor when the auditor is conducting audit for a close relative or family member.
  2. Consequences: Such a situation will lead to hampering the audit procedure and ultimately the audit opinion of the auditor and thereby the whole of the audit process. The fundamental principle which every auditor is to follow is violated in case of auditing of a close relative or a family member. There is a risk that the audit will not be conducted in a proper manner and might still contain certain material misstatements which might still be there. Thus, due to such circumstances the financial statements might not be showing true and fair view.
  3. Recommendations: The recommendations which can be suggested in such a situation is that the auditor must be changed or the auditor must not accept the audit engagement of a client which is closely related to the auditor. Moreover, the client company can implement an organizational policy which can keep intact the independence of the auditor and keep the auditing functions separate from the client’s influence on the same.

Non-Audit services to the client

Non-audit services refer to the services which are provided by the auditor which are not related to the audit of the business. Such services include accounting services, advisory services, agency services.

  1. Threats: The threat which is associated with the audit of a company where the auditor also provides non-audit services are threats of familiarity, intimidation and self-interest. Then there is a self- review threats which refers to the threats which arises when the auditor reviews the works which is done by the auditor himself when he was providing non-audit services to the client and therefore such will definitely result in manipulations and undue influence of self-interest on the audit.
  2. Consequences: The most basic threat which an audit firm faces when auditing a firm where the auditor also provides non-audit services to the client is the threat of self-review. This may result in improper audit of the company as the auditor will be analyzing his own work. Suppose an audit have passed accounting transaction for a business and no he is doing audit for the same business (Arru?ada 2013). The audit process will not be effective as the auditor will not be willing to disclose his own mistakes which were committed by him either knowingly or unknowingly.
  3. Recommendations: The recommendations which can be provided is that the firm must either change the auditor and bring an independent auditor who is not in any way related to the client’s company or withdraw the audit engagements of the client business. The firm in order to ensure that the audit quality is not hampered should not conduct an audit of a firm to whom it is providing non-audit services.

External Auditor of the client for many years

In a situation where the firm has been conducting the audit of client for many years there is sense of familiarity develops between the client and auditor. This happens when the audit engagement is renewed year after year for the purpose of audit.

  1. Threat: The most basic threat which arises in such a situation is that a sense of familiarity develops between the client and the auditor which can violate the fundamental principle of independence of the auditor and hamper the audit process.
  2. Consequence: Where the auditor has been conducting audit of the client for many years and have developed a sense of familiarity can cause the dependence of the auditor on management representation more and thus can lead to missing out material misstatements which are there is the financial statements (Knechel and Salterio 2016). In such cases the client almost treats the auditor as a normal employee of the company which is definitely not the case.
  3. Recommendations: In this case the recommendations which can be suggested is that the auditor should change audit engagements after conducting audit for the same company. In other words, same auditor should not be allowed to conduct the audit of the client for more than twice (Litt et al. 2014).


Thus, from the above analysis it is clear that the audit engagement should be free from undue influences, financial interest, family ties with the auditor in order to maintain the overall quality of the audit and ensure that the financial statements are showing true and fair view. The above analysis also show that the audit process should strictly follow ethical standards which can further improve the overall audit process. As per the analysis of the different threats which affect the audit process can be effectively rectified by the following the control measures as provided in the measures. The major consequences of the threat which are discussed above is that the auditor’s opinion will be hampered on the financial statement. It can be concluded that the auditor needs to ensure that if any of the situation as discussed above arises the necessary measures as suggested are to be implemented in order to ensure the effectiveness of the audit process.


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Arens, A.A., Elder, R.J. and Mark, B., 2012. Auditing and assurance services: an integrated approach. Boston: Prentice Hall.

Arru?ada, B., 2013. The economics of audit quality: Private incentives and the regulation of audit and non-audit services. Springer Science & Business Media.

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Rose, A.M., Rose, J.M. and Norman, C.S., 2013. Is the objectivity of internal audit compromised when the internal audit function is a management training ground?. Accounting & Finance, 53(4), pp.1001-1019.

Svanberg, J. and ?hman, P., 2015. Auditors' identification with their clients: Effects on audit quality. The British Accounting Review, 47(4), pp.395-408.

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