Threat to Auditor's Independence - Solutions and Situations

This article discusses the importance of independence in auditing and the threats that can compromise it. It covers five fundamental principles of APES 110 Code of Ethics for Professional Accountants and the two types of independence - independence of mind and independence in appearance. The article provides solutions to two different situations that pose threats to auditor's independence. The first situation involves an advocacy and intimidation threat, while the second situation involves self-interest and familiarity threat. The article emphasizes the need for auditors to be aware of the effects of threats on independence and to exercise suitable safeguard procedures.

THREAT TO AUDITOR’S
INDEPENDENCE

TABLE OF CONTENTS
Introduction.................................................................................................................................................3
Solution to Situation 1:................................................................................................................................4
Situation:.................................................................................................................................................4
Solution:..................................................................................................................................................4
A. Advocacy Threat..........................................................................................................................4
B. Intimidation Threat......................................................................................................................4
Solution to Situation 2:................................................................................................................................4
Situation:.................................................................................................................................................4
Solution:..................................................................................................................................................5
A. Self Interest Threat......................................................................................................................5
B. Familiarity Threat.........................................................................................................................5

Introduction
The responsibility to act is public interest is what differentiate the auditing profession from other
profession. APES 110 Code of Ethics for Professional Accountant has five fundamental principles:
1. Integrity;
2. Objectivity;
3. Professional competence and due care;
4. Confidentiality; and
5. Professional Behavious
Independency requires Members to act with integrity and to exercise objectivity and professional
doubtfulness. Members are obliged to be honest in professional and business relationship and not to
allow their opinion or judgment get biased, avoid conflict of interest or subdue under undue influence of
others.
Independency comprises both:
 Independence of mind; and
 Independence in appearance
Independency threats may be created by a broad range of relationship and circumstances. When a
relationship or any circumstances create a threat, such a threat could compromise, auditor compliance
with the fundamental principles as discussed above. The circumstances may create more than one
threat, and a threat may affect compliance with more than one fundamental principle as mentioned
above. Threats can be like:
A. Self Interest Threat - The threat that the financial or other interest will inappropriately influence
the auditor’s judgment or behavior.
B. Self Review Threat - The threat that the Member will not evaluate the previous judgment made
or services performed by the member or by another individual within the Members firm on
which the auditor will rely when forming a judgment as part of providing current service.
C. Advocacy Threat - The threat that the Member will promote a clients position to the point that
the members objectivity is compromised.
D. Familiarity Threat- The threat due to long or close relationship with client, member will be too
sympathetic to their interest to accept their work.
E. Intimidation Threat-The threat that the Member will be deterred from acting because of actual
pressure, including attempts to exercise undue influence over the Member.
The Auditor should know the effects of threats on auditor independence and should abide with the rules
of Professional behavior and should exercise the suitable safeguard procedure against these procedures.

Solution to Situation 1:
Situation:
Enid Blyton has been working as an auditor for the Anthony Don Chartered Accounting firm for the past
four years and has just started an audit on the Green Thumbs environmental company, a small newly
listed public company which has just listed as a public company one month ago. The Green Thumbs
environmental company has just started using a new contractor to dispose of its toxic waste .You know
that this new contractor has won tenders in the past and there have been several unfavorable articles
about this contractor in the local press.
Your Audit Manager, Peter Don, has stated that it is your responsibility just to provide an opinion
on the financial statements with the emphasis being on providing an opinion on whether the financial
statements are true and fair and whether there are any material misstatements.
Solution:
The threat member posses in above cases are as follows:
A. Advocacy Threat - The threat that the Member will promote a clients position to the point
that the members objectivity is compromised. In this case Peter Don has knowingly taken a
stand to ignore the Enid information about the contractor unfavorable articles and supported
client position to the extent the objectivity is compromised and thus posses an advocacy threat.
B. Intimidation Threat - The threat that the Member will be deterred from acting because of
actual pressure, including attempts to exercise undue influence over the Member. Peter don
has also asked Enid Blyton to just restrict himself to providing an opinion on the finiancial
statement and exercise undue influence to ignore the clients stand on the Contractor.
Solution to Situation 2:
Situation:
Jean Douglas has just started to do the audit on the latest financial statements and has just made the
following notes from your opening interview with John Dooley, CEO of Dooley’s. John has apologized for
not making the final payment of 30% of the prior year’s audit fee but has explained that he will ensure
the cheque is written once he is happy with the progress on the current audit. At this stage John Dooley
has advised that the firm will be able to start deliberations about the selection of Auditor for the
following year. The Dooley’s audit comprises forty percent of the annual audit fees for the firm.
John has advised that they will be providing a free trip to Europe for an Auditor from the Audit firm and
his partner once the audit is successfully completed.

Jean is concerned with several aspects of the current audit as Dooley’s do not appear to be following the
accounting standards in their valuation of inventory as they are not taking into account the reductions in
fair value of inventory and the impact on the financial statements is material.
Solution:
The threat member posses in above cases are as follows:
A. Self Interest Threat - The threat that the financial or other interest will inappropriately
influence the auditor’s judgment or behavior. Firstly, the firm has undue dependence on total
fee from Dooley’s since it comprises 40% of the total fees. Secondly, the firm has a contingent
consideration of John advising that he will be providing a free trip to Europe for an Auditor from
the Audit firm and his partner once the audit is successfully completed is itself a threat to the
independence. Thirdly, 30% of the fees is due from last year which has been promised basis the
progress made in audit is itself depleting the independence of the member since before start of
audit, Jean should have ensured recovery of old dues.
B. Familiarity Threat- The threat due to long or close relationship with client, member will be
too sympathetic to their interest to accept their work. Since John has advised that they will be
providing a free trip to Europe for an Auditor from the Audit firm and his partner once the audit
is successfully completed imposes a familiarity threat since it is available to only selected group
of team imparting audit services and may have a threat on independence concern specially
when Jean was concerned with several aspect of the current audit.