Financial Auditing and Ethics - Example

Student Name: Tutor: Title: Financial Auditing and Ethics Assessment Task Course: Executive Summary Financial auditing is very important in any profit making organization. This report explores the likelihood of risks in Qld FITS Company and factors contributing to misstatement. The report is structured into four main parts. The introduction explains the scope and structure of the report while mentioning important areas that will be covered. The second part explores the types of risks that would be considered by the auditing team. Inherent risk and control risks have been mentioned as the prevent risks that will be considered in the auditing reports. Reasons that led to the consideration of the risks have been explained. The third part explains factors contributing to risk of material misstatement and risk. This part discusses practices that make it possible for risk of material misstatement and risk to happen. The last part of the report consists of the recommendations which are suggestions for measures that can be taken to deal with audit risk in the company. The conclusion that is combined with the recommendations echoes important points in the report. The report has a list of references that comprise of sources consulted during its preparation. Table of Contents Introduction 3 Types of risks to be considered 4 Factors impacting on material misstatement risk and their effects 7 Recommendations and conclusion 9 References 9 Introduction There are various risks that need to be considered by an auditing team in their obligations. Inherent and control risks are common in auditing. Qld FITS is a family owned company that has not had any audit done for a long time. The imminence of materiality and risk is compounded by the environment and the way financial obligations are structured in the company. Many sectors in the company and using both full time and part-time account staff increase the chances of inherent risk. Absence of internal control measures allows the accounts staff to operate at their own discretion and mere trust from the Chief Finance Officer. This report discusses the types of risks to be considered during auditing and the factors contributing to risk of material misstatement as well as risk. The size of the firm, the attitude of management, and excessive accounts staff financial obligations are factors impacting on material misstatement and risk. Types of risks to be considered It would be essential to consider inherent risk since the company is operating in a highly regularized sector comprising of complex networks of entities that are related hence there is high chances of misrepresentation of information in the financial statement from various sectors in the absence of financial controls. Inherent risk involves material misstatements within financial statements owing to error or omission resulting from other factors as opposed to failure of internal controls (Srivastava & Shafer, 1992). These factors are responsible for misstatements due to lapses in controls. Qld FITS is a resort company comprising of other sectors that contribute to inherent risk. The firm offers leisure and holiday activities. It has a five-star resort, offers accommodation for backpackers as well as a family hotel. The firm is involved in numerous operations that include surfing, boating and dividing activities. Compiling income statements from various sectors of the firm before processing the major income statements of the company is likely to be susceptible to inherent risk. Inherent risk is prevalent where a high degree of judgment as well as estimation is involved. The operations of the firm consist of various activities that will require some judgment and estimation to determine the amount of expenditure and income in the preparation of the final accounts of Qld FITS. Separating incomes from the various sections like diving, surfing and boating can be tricky and complex since they are closely related and share a venue. The fact that the three accounts personnel work independently and report directly to the CFO compounds chances of inherent risk. The act of Mary delegating her role to the other two accounts staff makes the possibility of errors occurring to be very imminent. Mary is single-handedly developing procedure manuals and a policy for the accounting department. Such developments in the accounts department should not be left to one person since the chances of making mistakes is high. The delegated work comprise of processing receipts and payments, performing reconciliations, opening mail, banking funds received, performing the payroll function and posting journals. Since the two accounts clerks Katie and George report separately to the CFO and further report at different times makes it easier for inherent risk to occur. Katie is only a CPA holder who recently graduated. Lack of defined roles and sharing of roles can lead to inherent risk in the records. Multiple entries being made by different people make it hard to verify and opens room for fraud and errors. Control risk is the type of risk of material misstatement in final accounts that comes about as a result of failure or absence in the operations of the internal controls of the company. It is critical for companies to have adequate internal controls put in place in order to prevent and detect any instance of error and fraud. Control risk becomes common where the audit entity does not possess enough internal controls to detect and prevent instances of error or fraud in the financial statement being prepared (Cascarino, 2007). Control risk is common is small-sized entities whereby separation of duties is not clearly defines and the financial reports are made up by people who do not necessarily have technical knowledge of accounting and finance. The chance of control risk in Qld FITS Company is very high. This is a family owned company where majority shareholders doubled up as professionals. Robert and Eunice Leatherwood have the major shares in the Leatherwood Group that is in control of Qld FITS Company. Apart from being the major shareholder, Eunice also serves as the Chief Finance Officer of Qld FITS and she is director of the two companies. Provided that Eunice is a major shareholder in Leatherwood Group, it brings about a conflict of interests when he is also the Chief Finance Officer of Qld FITS that is run by Leatherwood Group. Her decisions will be biased and there are no clear separation of duties since it is the same person serving in different capacities. As the CFO, Eunice is in control of the budget and can authorize spending and even try to cover up where there are mistakes. Moreover, is not known whether Eunice is a professional accountant or has a background in accounting and finance. Robert who is husband to Eunice and a majority shareholder in the company also serves as the chairman of board of directors of Leatherwood Group and Qld FITS. Eunice and Robert have great influence in the operations of the company and there are no internal controls measures that have been put in place to make sure that personal motives are not engaged in the running of these companies. It is not surprising that QlD FITS has not been audited in the past consequently there is no history of serious internal control measures to detect errors and cases of fraud. It is at the request of the bank of the company and the private investor group that has acquired shares in the company that the audit is going to be carried out. There internal control to ensure proper use of money as well as its records. Eunice and Robert have a very relaxed management style. They expect their workers to be faithful, work hard and they are in turn rewarded well. There is no supervision or clear separation of roles and workers have a lot of liberty within the company. It is believed that the accounts staff are faithful and make statements that are correct and there is no body to counter-check the entries in the name of internal auditing. This lack of internal control measures makes control risk to be imminent (Wilson & Root, 2000). The company does not have an audit committee to undertake any competent oversight duties in the operations. The fact that the accounts clerks love their job to the extent of not taking any annual leave or sick leave is a cause for worry since they may be involved in altering the accounts of the company for their own good. Relying on mere trust among the accounts staff is deceptive. Errors and fraud cannot be detected and if detected, they will be at an advanced stage that will cost the life of the company. The accounts department has three people who reports directly to Eunice Leatherwood, the CFO. There is no internal control that ensures that statements represented by the accounts personnel to the CFO are true reflection of operations in the firm. The three accounts clerks should report to one person who in turn can verify their records and present it to the CFO. Factors impacting on material misstatement risk and their effects Risk is a degree of uncertainty while materiality defines the magnitude or size. Risks and materiality determine the planned evidence. There are several factors that impact risk of material misstatement and have effects on planning materiality and risk (Pickett, 2006). An investigation by the Royal commission reports that the climate change is likely to cause devastating damage to coral reefs as well as cause adverse tropical storms for the next ten years. This kind of information can increase the degree of materiality and risk. The clerks understand that their work and therefore livelihood will be at stake with the changes in the climate change hence they will look for ways of making up for it. Fraud cases will be imminent and degree of misstatement will be high. With the coming of tropical storms and damage of coral reefs, clients will cease to come and chances of the company being forced into liquidation are very high. The audit team has to consider this issue seriously. The delegation of duties by Mary and the fact that the accounts staff work on the safe assignment at the same time create chances of mistakes or even fraud. Mistakes in calculations, omissions, misapplications and misunderstanding of accounting standards are rife. The degree of materiality and risk due to this factor will range from small to enormous. Accumulation of mistakes in calculations or wrong entries can cause serious impact in the financial reporting. This factor has to be considered and a great deal of materiality and risk attributed to it. The audit team will expect errors of omissions, misstatement of calculation owing to multiple responsibilities. The fact that Eunice as the Chief Finance Officer has no training in accounting and finance and one of her employees, Katie, has recently graduated, compounds the imminence of materiality and risk. Absence of proper schedule and accounts staff working on the same assignment at different times is reason for certain amount of materiality. The degree of material misstatement can be low but significant. Lack of experience of the accounts staff makes it easier for materiality and risk to be prevalent. Excessive financial obligation for workers can lead to mistakes (Rittenberg, Johnstone & Gramling, 2011). The size of the firm is also important in planning of materiality and risk. This is small company that is family owned. Relying on the trust of accounts staff is deceptive and misleading. Many sectors and operations carried out in the firm make it possible errors of omissions and misstatement to occur. The absence of internal controls and the mutual relations of trust make it easier for errors and misappropriations to occur. Recommendations and conclusion The company has to hire qualified accounts staff with experience in financial reporting to minimize material misstatement and risk. The excessing and interlocking financial obligations among the accounts staff can be overwhelming and clear definition of duties has to be done. The company has to put in place internal control measures and avoid chances where multiple accounts clerks report to the CFO. Errors and fraud can be minimized when there is coordination and check and balances to curtail errand accounts staff. In the current situation inherent and control risk will be prevalent and the attitude of management towards controls and ethical conduct worsens the problem. Mere trust of the accounts staff cannot be relied on to ensure risks and fraud is avoided. References Cascarino R., 2007, Internal Auditing: An Integrated Approach, Juta and Company Ltd, Delhi. Pickett K. H. S., 2006, Audit Planning: A Risk-Based Approach, John Wiley & Sons, New York. Srivastava R.P. & Shafer G.R., 1992, Belief function Formula for audit risk, Review: Accounting Review, 67 (2): 249–283. Rittenberg, L., Johnstone, K., & Gramling, A., 2011, Auditing: A Business Risk Approach, Cengage Learning, Melbourne. Wilson, J.D. & Root, S.J., 2000, Internal Auditing Manual, Warren, Gorham and Lamont, Inc. www.knowledgeleader.com Read More