At a glance
As told to Susan Muldowney
Question: “I have been auditing the financial statements of a client in the manufacturing industry for approximately 11 years. I have come to know the business and its executive team very well over the past decade. My colleagues also have a range of audit clients with an average duration of about six years.
Does my long-term audit work with my client present any ethical issues and, if so, how should our firm manage this?”
Answer: Long-term audit work with a client presents ethical issues.
APES 110 Code of Ethics for Professional Accountants outlines the fundamental principles of ethics for professional accountants. This code provides a conceptual framework to help you identify, evaluate and address any threats to independence for audit and review engagements, and for other assurance engagements.
These threats to independence fall into a number of categories. In the situation you’ve outlined, there are two key threats – a familiarity threat and a self-interest threat.
Familiarity threats can occur when an accountant does not exercise the same professional scepticism because they’ve formed a long relationship with a client – they may become overly sympathetic or accepting of the client’s interests.
The self-interest threat in this case may occur if you’ve become dependent upon the client as a key part of your income stream.
These conflicts need to be managed. Typically, they can be managed by having some form of partner rotation, but it depends on what type of client you’re referring to.
If it’s a listed company or a public interest entity, you have mandatory rotation requirements and cooling off periods (an individual must not play a significant role in the audit of a listed entity for more than five out of seven successive financial years).
APES 110 Code of Ethics also prohibits a person from participating in the audit engagement for at least two years after the five years' service as lead or review partner.
If the client you’re referring to is not a listed company or a public interest entity, you don't have the same mandatory rotation requirements.
Upskill
However, you will still need to manage the threats to independence by eliminating the circumstance giving rise to the threat altogether or by applying safeguards.
The best safeguard in this case would be to have some form of partner rotation after a specified period. You could apply the mandatory rule here of no more than five out of seven successive financial years.
If you are a small firm, it may be difficult to rotate partners, so you will need to put other safeguards in place.
For example, you could make sure that at least the senior audit staff such as the audit manager and the audit senior on the engagement are rotated and you have good quality-review procedures in place. You wouldn’t want the same engagement partner and quality-review partner on the same engagement for an extended period.
When a colleague does a quality review, they're checking to see that the conclusions that the lead audit partner or engagement partner has come to are appropriate, given the evidence that's been documented, and that the audit has complied with all the requirements of the various standards that govern audits.
Be sure to communicate your independence concerns with your client and then document this. You’ll want to make certain that the client is also satisfied that your independence is being maintained.
A long-term audit relationship with a client presents significant threats to independence. If the threats cannot be managed and reduced to an acceptable level, you will need to eliminate the circumstance that is creating the threat.
