BUACC3741 Auditing: Explicit and Implicit Client Pressures

Introduction

Present study is based on evaluation of various aspects of audit by considering its significance in present commercial era. Study is bifurcated in three questions which deals with pressure on auditor, changing role and responsibilities of auditor and opinion provided by them on the basis of analysis respectively.

1.

Pressure is the part of the life of any auditor whether it be professionally or academically. Pressure can arise on auditor either by client’s management or by within the organisation too. The pressure which comes from client’s management is known as explicit pressure and pressure which arise from firms own management control system is known as implicit pressures (Arnold, 2009). Through the below discussion, we strive to analyse the interaction of two types of pressures that influence the judgments of both highly experienced and novice auditors regarding the acceptability of a client’s recommended accounting policy.

Explicit Pressure: Explicit pressure when client’s management enunciates his position and anticipated outcome. Client’s Management put pressure on auditor explicitly by intimidating them i.e. by threatening them with the termination of existing relationship, but we are aware that the threats are generally not part of the negotiations between audit partner and client’s management. But client’s management can also put pressure explicitly without menacing i.e. to be lenient in interpreting GAAP for the specific period by providing higher fees for the same if they will be lenient in reporting the same (Asare and Cianci, 2009). When auditors feel that they are directly being challenged by client’s management, then they can rely on professional standards to safeguard their interest and ensure independence. Client’s Management may also influence auditor by facilitating his focus on how the interest of both the parties can be aligned. By shifting the focus of the auditor to this mutual interest win - win situation can be created. The presence of pressures encompasses a decrease in the quality of audit services, to the degree to which the auditor surrenders to these explicit pressures. When it is felt by the auditors that their professional judgment is being explicitly challenged by the client, they can depend on professional and ethical standards that give guidance on how to protect their autonomy and how to guarantee adequate professional scepticism. It is also well-documented that audit firms are under fee pressure because of heightened competition. They are hence moving to practice management models which place explicit and growing pressure on auditors to retain clients who are profitable (McCracken, Salterio and Schmidt, 2011).

Implicit Pressure or Within Audit Firm Pressure:  It has been experienced over last 3 decades that audit firms have increasingly been under fee pressure due to increment in a number of rival firms hence audit management has also changed their approach and have put pressure on audit partners to retain the profitable clients. Audit Firms are now consistently trying to rely on relationship market in order to achieve growth and profitability goals irrespective of scepticism of some experts in the area concerning its appropriateness (Pike and Barrainkua, 2016). Relationship Marketing is well defined as inviting, developing and retaining customer relationship through delivering such service that customer is retained and stay loyal to the service provider. Bazerman and Moore (2011), based on their motivated reasoning assessment of the context in which an auditor performs with both commercial and professional motivations existing and potentially active, posited that some environmental factors are likely to trigger some of the drivers and that auditors will instinctively evaluate the situation in the context of the dominating motivation. When a client implicitly expresses his preferences considering the mutual interests of the client management and auditor, and not explicitly challenging the professional self-identity, an auditor mechanically complies with the overriding logic of the business i.e. commercial motivations of the client. Under this impression, the auditor involuntarily interprets the facts to the highest degree possible in consistency with the accounting methods preferred by the client. Moreover, any negotiations with the client over the same are likely to include strategies which are more compromising and conceding from the initial position of the auditor (Fu, Tan and Zhang, 2011). In the context of motivated reasoning, the goal of the client’s understated implicit pressure is to increase the awareness of the auditor about their common interest, encouraging the auditor’s acceptance of the directional objective to help the client management in reaching their intended business outcomes.

2.

Auditing

Auditing means conducting an independent examination of financial information of the organisation whether profit-making company or non-profit making company irrespective of their size. In simple words, we can say auditing means checking of books of accounts. The scope of auditing is not restricted to the only financial statement but also non-financial matters. Audited financial records are expected to be useful and timely in decision making. To stay a relevant and valuable service, auditing should seek a means to evolve (Andenas and Chiu, 2013). It is important to answer why auditing is necessary-:

• To obtain loan
• To legal compliance requirement
• To protect the investor and lenders   

The main objective of auditing is reporting to the owners whether their financial statements provide a fair and true picture of the organisation’s state of affairs and the income statement provides a true view of profit and loss for the concerned year. The incidental goal of auditing is detecting and preventing frauds and errors. This secondary objective flows from the primary goal of identifying if the financial books provide a correct picture (Andenas and Chiu, 2013).

Future of audited financial statement

Technology is changing rapidly. In order to be relevant for the stakeholders auditing procedure for preparing audited financial statement should be automated. Before the internet era, when it is not popular or say it is not accessible to common man, everyone companies issue their financial statement periodically. This is not beneficial for e.g. stakeholders are unaware about the losses until it is periodically published. Now with the use of technology advancement, companies update their statement in a real time (Houghton, 2010). Auditors need to be an all-rounder, in terms of knowledge as well as a technological improvement that take place in auditing.

The basis for some competencies and abilities auditors will require in a data-driven marketplace will have to be cultivated in their graduate or undergrad courses. The influence of data on the business world driving a transformation in the skill set that auditors should have to remain successful. Industry experts claim that the profession is likely to evolve substantially in the next ten years to stay competitive and relevant. Technology will enable more frequent audits, even facilitating audited financial records to be generated continuously. Greater dependence on internal auditor will trigger some of this development. Resultantly, technological protections will be implemented to assure corporate privacy and safety (Worrell, Gangi and Bush, 2013). Though audit judgment will remain a crucial element of an effectual audit, electronic decision systems will help auditors in making more efficient and consistent judgments.

To continue being a relevant and viable field, the profession of auditing cannot fight advances which may strengthen the effectiveness and efficacy of the process, or it will no longer remain worthwhile. Nonetheless, the significance of yearly financial statements is reducing. Ten years ago, if an individual was told that bookstores would not be a feasible model, then this too could have been an improbable event. Nonetheless, with the growing usage of smart devices and tablets, there is lesser in print. Auditing profession will not like to see itself in the midst the same situation (PWC, 2015).

Technology is impacting all industries, and the auditing profession is no exception. With the changes in marketplace and technology has an instrumental role to play, leveraging technology to be capable of capturing and analysing larger quantities of data is growing and highly important auditing skillset. Increasing number of audit companies are centralising their performance of some routine audit operations. This offers the main audit team with extra time to concentrate on non-regular audit areas which frequently need more evaluation and professional scepticism. Some abilities like critical thinking and business acumen have always been expected of highly experienced auditors (Lombardi, Bloch and Vasarhelyi, 2015). Nonetheless, the blend of auditing and technology, plus the developing structure of audit team members, makes cultivating such abilities to a higher degree earlier in the career of auditors more critical.

3.

First and third picture of the illustration clearly shows a link between research conducted by the auditors of the company and opinion provided by them on the financial as well as a non-financial matter of the organisation. For the compliance of legal requirements, the big organisation is mandatory to audit their financial statements by the auditor (Worrell, Gangi and Bush, 2013). It helps stakeholder to know the true position of the business and to make a rational decision related to the business entity. Audit reports also help organization to improve brand image, attract funds, reaching to new investors, and obtain loans.

Auditor opinion is given by an independent party to companies after considering their financial statements inclusive of evaluation of material misstatement in it. Auditors need to follow various rule and procedure for preparing the audit report. There are four common types of auditors’ opinion which are described as below -:

Qualified opinion: An auditor gave a qualified opinion when they cannot find the evidence of some class of transaction or regarding particular account balance and when they find out other immaterial or material thing which affects some particular accounts but does not affect the rest of the balances in the financial statement.

Unqualified opinion: It is also called clean opinion because this report is issued when the financial statements of the business are free from any defect. It means the data presented in the financial statement are accurate and according to the generally accepted accounting principles (GAAP). This is the best report given by the auditors, and every organisation wants to receive this kind of report.

Adverse opinion: It is the worst form of audit report given by the auditor to any organisation. It has a negative impact on the goodwill of the company (Andenas & Chiu, 2011). It is issued when accounting standards and principles are not followed, or there is a misrepresentation in the financial statement of the organisation. The adverse report also indicates the possibility of frauds. In this situation, Company needs to reassess their financial statements and try to improve their financial statements as stakeholders will not accept it.

Disclaimer of opinion: This report is issued when the auditor is not able to prepare reports due to various reason such as missing material financial information or lack of cooperation from the management or interest of conflict between boards of director.

Second and fourth pictures clearly show that auditors are evaluating each and every aspect of the financial transaction which has a material effect on the financial statement. Since the company is an artificial person and investors of the company have not direct access to the company, so they recruit a board of directors to run the company (McCracken, Salterio & Schmidt, 2011). To protect from frauds, the law requires accounts should be verified by the external auditors and gave their opinion based on the reports. The first thing to be considered by the auditor is to provide the necessary detail to investor and lender which they are not getting now.

Auditor needs to evaluate documents to reach his judgment. Audit evidence means the information requires by the auditor for arriving at the conclusion on which their report is based. The auditor must present the fact whether there is the true and fair position of the business or not for this auditor need sufficient and appropriate audit evidence (Houghton, 2010). Auditor reports and opinion is supported by the audit evidence. For collecting audit evidence, auditor’s gathers information relating to financial factors as well as other factors. These are the procedure to obtain audit evidence -:

• Auditor checks initial accounting entries, invoice, cash memos, electronic fund transfer, journal, ledger and another important adjustment of the financial statement
• There is some other evidence which auditor may use for arriving at his judgment like minutes of the meeting (Fu, Tan & Zhang, 2011).
• Auditor may interview the employees of the company to check the internal control
• Auditor also obtains external confirmation by the third party through written mode or electronic mode. External confirmation may go beyond the account balance, for example, auditor may ask to present the term and condition of the agreement.

Conclusion

In accordance with the present study conclusion can be drawn that role and responsibilities of auditors is continuously increasing due to increasing requirement of governance and internal control. Auditors are required to ensure that all aspects are covered by providing in-depth consideration of material aspects prior to provide opinion regarding financial reports.

References

Arnold, V., (2009). Advances in Accounting Behavioral Research. Emerald Group Publishing.

Asare, S. & Cianci, A., (2009). The effect of goals on auditors' judgments and their perceptions of and conformity to other auditors' judgments. Managerial Auditing Journal, 24(8), pp.724-742.

Bazerman, M. H., & Moore, D. A., (2011). Is it Time for Auditor Independence yet? Accounting, Organizations & Society, 36(4/5), pp.310-312.

Fu, H., Tan, H. & Zhang, J., (2011). Effect of Auditor Negotiation Experience and Client Negotiating Style on Auditors’ Judgments in an Auditor-Client Negotiation Context. Auditing: A Journal of Practice & Theory, 30(3), pp.225-237.

McCracken, S., Salterio, S. & Schmidt, R., (2011). Do Managers Intend to Use the Same Negotiation Strategies as Partners? Behavioral Research in Accounting, 23(1), pp.131-160.

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Andenas, M. & Chiu, I., (2013). The Foundations and Future of Financial Regulation: Governance for Responsibility. Routledge.

Houghton, K., (2010). The Future of Audit: Keeping Capital Markets Efficient. ANU E Press.

Lombardi, D., Bloch, R. & Vasarhelyi, M., (2015). The Current State and Future of the Audit Profession. Current Issues in Auditing, 9(1), pp.10-16.

PWC. (2015). The evolution of auditors How skillsets are changing. [pdf]. Available through: <https://www.pwc.com/us/en/cfodirect/assets/pdf/auditing-evolution-technology-driven-skillsets.pdf>. [Accessed on 1^st June 2017].

Worrell, J. L., Gangi, P. & Bush, A. A., (2013). Exploring the use of the Delphi method in accounting information systems research. International Journal of Accounting Information Systems, 14 (3), pp.193–208.