9 - FR & Audit

Question 1

Which statement must directors giver re. their annual report and accounts?

Answer 1

Taken as a whole, they are ‘fair, balanced and understandable, and provide the information necessary for shareholders to assess the company’s position, performance, business model and strategy’

Question 2

Why is fin. reporting so important?

Answer 2

As it provides crucial information to stakeholders which guides their decisions

Question 3

5 ways in which accounting position can be misreported?

Answer 3

• Adoption of certain accounting policies
• Choosing to place profits/losses in another FY (eg. if contract is long term)
• Taking debts off of balance sheets
• Disguising money from loans as operating income
• Over-valuing assets

Question 4

Key challenge faced today by annual report

Answer 4

Many demands from traditional and new users has led to a ‘confused’ document

Question 5

Which company type is required to have an audit committee?

Answer 5

Listed companies (and some financial institutions)

Question 6

Other than UKCG Code, where else is requirement for audit committee found?

Answer 6

Disclosure Guidance and Transparency Rules

Question 7

What does DTR 7.1 say on audit committees? (3)

Answer 7

• Listed companies are required to establish an audit committee

Should be comprised of:
- Majority of independent members
- At least 1 member with competencies in accounting or auditing, or both
- Members who as a whole have the competencies relevant to the sector in which the listed company is operating in

Question 8

5 responsibilities of the audit committee (more listed in Code)

Answer 8

• Monitoring integrity of, reviewing and reporting on annual reports and other periodic reports
• Reviewing internal control and risk management systems
• Reviewing need to establish internal audit function
• Overseeing relations with the external auditor
• Reviewing and monitoring external auditors objectivity and independence

Question 9

What is the eligibility to be a co’s (external) auditor

Answer 9

Person or firm that is a member of a recognised professional accountancy body

Question 10

Briefly explain auditor’s liability

Answer 10

There has been uncertainty as to whether auditor’s owe a duty of care to third parties (as well as company and its shareholders).

Due to ruling in ‘Bannerman case’, auditors now include a disclaimer stating that they act for the company’s members only.

Auditor’s are now able to limit their liability through entering into agreements with companies

Question 11

2 main purposes of audit report (ie. what must auditor state in audit report)

Answer 11

• Give an opinion on whether the FS give true and fair view of fin position and fin performance of the company
• Give an opinion on whether FS comply with relevant laws and accounting standards

Question 12

Additional requirement of auditor for listed co’s

Answer 12

Review compliance with 2018 Code

Question 13

What is meant by an unmodified auditors report

Answer 13

States that the FS do present a true and fair view of the fin position of the company

Question 14

What does the issuance of a modified audit report imply?

Answer 14

• There are potentially grave concerns about the FS and fin condition of the company
• External auditor and board could not agree on application of accounting policies and the content of the FS

Question 15

3 types of modified audit opinion

Answer 15

• Qualified audit opinion
• Adverse opinion
• Disclaimer of opinion

Question 16

What is a qualified audit opinion? (modified audit)

Answer 16

FS would give true and fair view except for a particular matter, which auditor explains

Question 17

What is an adverse opinion? (modified audit)

Answer 17

Material misstatements which are ‘pervasive’ - e. information in FS is seriously incorrect

Question 18

What is a disclaimer of opinion? (modified audit)

Answer 18

Unable to obtain information needed to give an audit opinion

Question 19

5 types of potential threats to auditor’s independence/objectivity

Answer 19

• Self-interest threat
• Self-review threat
• Advocacy threat
• Familiarity threat
• Intimidation threat

Question 20

What is the self-interest threat to auditor’s independence?

Answer 20

Auditor may be earning such a large amount that their judgement will be affected by desire to protect income stream

Question 21

What is the self-review threat to auditor’s independence?

Answer 21

If audit firm does non-audit work for company, they will have to review this, and may not be as critical of its own work, to avoid raising questions over its professional competence

Question 22

What is the familiarity threat to auditor’s independence?

Answer 22

Familiarity with company or a director can lead to unconscious trust in company, and unwillingness to believe that company could make serious error or commit fraud

2 types - personal association & over time

Question 23

What is the advocacy threat to auditor’s independence?

Answer 23

Non-audit work requiring the company to ‘advocate’ (give formal support) for the company by providing public statements or supporting it in a legal case should not be taken on, as it means the auditor is being asked to take sides

Question 24

What is the intimidation threat to auditor’s independence?

Answer 24

Real and imagined threats to auditor through ‘bullying’ can lead auditor to accepting what the bully is telling them

Question 25

6 measures which should be in place to protect independence of external auditor

Answer 25

- Appointment (and remuneration decided upon) by shareholders - Restricting or prohibiting non-audit services (self-review check) - Assessment of independence by audit committee - Rotation of audit partner or firm - Monitoring by audit com of which public statements auditor makes on behalf of Co (advocacy check) - Audit committee meet with auditors and management once per year (intimidation check)

Question 26

2 steps audit committee should take in order to assess the independence of the auditor

Answer 26

- Seek reassurance that auditors have no relationship with company or execs/management that could affect independence - Seek info from auditors on their policies for maintaining independence

Question 27

UK Law on non-audit work by audit firms (2)

Answer 27

- Non-audit work fees can be no more than 70% of average fees over previous 3 years - Certain non-audit work is outright banned - tax, decision-making, bookkeeping

Question 28

Look at FRC Guidance on Audit Committees - audit committee should apply judgment concerning provision of non-audit services not prohibited by law, including assessing: (5)

Answer 28

- Threats to independence and objectivity - Nature of non-audit services - Whether audit firm is most suitable supplier of the non-audit service - The fees incurred, individually and relative to audit fee - Criteria governing compensation of those performing the audit *formal policy should be applied by audit committee in respect of the above*

Question 29

UKCG Code requires an explanation in annual report of what, if the external auditor provides non-audit services?

Answer 29

How auditor independence and objectivity are safeguarded

Question 30

FRC's recommendation of normal rotation period for audit engagement partner

Answer 30

5 years Can be extended up to 7 years but this should be disclosed with explanation to shareholders

Question 31

What is meant by rotation of audit partner?

Answer 31

Changing the lead partner/lead member of the team from the external audit firm that has been appointed as the company's auditor

Question 32

Rules on PIEs max length for audit firm

Answer 32

- Should change every 10 years (and must tender) - Mandatory rotation every 20 years, as long as rule of tender once a decade is complied with

Question 33

5 arguments against audit rotation

Answer 33

- Decreased audit quality due to lack of knowledge - Increased costs to auditor due to learning curve of new firm - Increased costs to client due to above - Lack of choice in choosing new audit firm with relevant experience and expertise in industry - Difficulty for audit committee in choosing firms for non-audit purposes

Question 34

Role of CoSec in relation to Audit Commitee (6)

Answer 34

- Developing terms of reference - Advising on composition - Conducing induction for new members - Developing annual calendar of activities - Ensuring committee has sufficient resources to carry out its role - Assisting members in understanding current and emerging issues

Question 35

Role of CoSec in relation to external auditors (4)

Answer 35

- Appointment and remuneration process - Assessment of independence - Ensuring external auditor attends AGM - Advising board on any rotation requirements

Question 36

4 main factors to consider when selecting auditor

Answer 36

- Quality and effectiveness of audit - Auditor's experience - Price - Independence

Question 37

Quality and effectiveness of audit as factor in choosing auditor (2)

Answer 37

Company must be satisfied with the quality and effectiveness of audit work provided. If the auditor is raising many queries and concerns, this is a good sign that the audit is thorough

Question 38

Price as a factor in choosing auditor

Answer 38

Price is relevant but should not be the sole reason an auditor is chosen

Question 39

Auditor experience as a factor in choosing auditor

Answer 39

Board should take into account auditor's experience of work with companies of similar size and business sector.

Question 40

Independence of auditor as factor in choosing auditor

Answer 40

Not really a factor but a basic requirement that the auditor is independent. Independence of auditors is fundamental for integrity in, and trust in, the external audit process.

Question 41

What should companies seek out from prospective auditors during tender re. independence (2)

Answer 41

Confirmation that auditors and staff have no family, financial, employment, investment or business relationship with company and it directors and employees. Information about policies for maintaining independence and compliance with relevant requirements

Question 42

The requirement to ensure the accounts show a 'true and fair' view falls on who?

Answer 42

The directors of the company (auditors then say whether they agree or not in audit report)

Question 43

Look at Code - which provision relates to audit committee composition?

Answer 43

24

Question 44

Which two of the five threats to auditors independence are particularly relevant if talking about provision of non-audit services?

Answer 44

Self-interest Self-review

Question 45

What would be key aspect of audit committee's role in relation to provision of non-audit service by auditor? (2)

Answer 45

Ensuring a policy is in place, approved by audit committee, in relation to provision of non-audit services by external auditor. Aim is to ensure provision does not impair independence or objectivity

Question 46

If external audit firm is providing other services, who must not carry them out?

Answer 46

Members of the firm working on the audit (or in the same team as)

Question 47

Check Code - what must be explained in audit committee report re. non-audit services?

Answer 47

How auditor's independence and objectivity are safeguarded if non-audit services are provided

Question 48

What does FRC Guidance on Audit Coms say should be explained in audit committee report re. non-audit services?

Answer 48

What the non-audit services provided were and why it was appropriate to buy them from the auditors

Question 49

6 steps to be taken by the audit committee if concerns are raised about XYZ?

Answer 49

- Request further information or evidence if necessary to properly understand issue - Ensure that specific issue is dealt with by relevant persons (eg. FD, finance team, internal audit team) - Review of financial controls and internal audit functions more generally - Raise the issue with the external auditors - Report to the Board on the issue - Make relevant disclosures in audit committee report

Question 50

Look at Code - which provision is related to audit committee disclosing significant issues?

Answer 50

Provision 26

Question 51

If an issue is raised re. financial controls, why should audit committee raise it with external auditors?

Answer 51

As part of the disclosures and discussions it is required to have with auditors Auditor will need to be satisfied that XYZ shown in accounts is correct

Question 52

If an issue is raised re. financial controls, why should audit committee report it to the Board?

Answer 52

Because the Board has overall responsibility as per Code - in turn can advise on how issue is being resolved etc.