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Assignment number :01 Course code: HONOUDK Student number: 36894206 The responsibility of the external auditor and the management of the entity being audited with relation fraud and error. 1. Introduction Fraud is defined as something that is intended to deceive people and error is defined as something unintentionally done wrong, e. g. as a result of poor judgment or lack of care by Encarta English Dictionary.
After the collapse of great companies like Enron, and World com to mention a few, it has raised eyebrows the involvement of auditors in these failed companies and have put the importance of effective corporate governance in the spotlight. It was well documented fact that Arthur Anderson the auditors were involved in the Enron debacle which led to its dissolution as one five largest accounting firms in the world. The responsibility of auditors in the above mentioned example was massively undermined, on June 15. 2002 Arthur Andersen was convicted of obstruction of justice for shredding documents relating to its audit of Enron.
Even though the Supreme Court of the United States unanimously overturned Andersen’s conviction due to flaws in the jury instructions, Andersen has not returned as a viable business even on a limited scale, there are over 100 civil suits pending against the firm related to its audits of Enron and other companies. It began winding down its American operations after the indictment. The management of Enron also was not responsible and careful enough in handling their operations as a result of the fraud at Enron shareholders lost tens of thousands of billions of dollars and many Enron executives were indicted.
Therefore this is a very serious issue that both management and auditors must not overlook but show great willingness in tackling it. I believe that normally management takes great care in preparing financial statements and in making sure that the financial statements are free of material error in all respects. Despite what I have mentioned human beings do make errors from time to time in executing their duties. It is against this background that both auditors and management have the responsibility not to overlook the errors and also regarding the management to have sufficient control to prevent and to detect errors.
My view concerning what I have mentioned above is that management and external auditors, and other stakeholders such as internal audit, audit committee ,employees ,suppliers, consumers and investors are all affected when there is fraud and error in the financial statements and in the entity as a whole. The following paragraphs provide an overview of the responsibilities of both auditors and management with relation to fraud and error. Assignment number :01 Course code: HONOUDK Student number: 36894206 2.
The responsibility of the external auditor and the management of the entity being audited with relation fraud and error. 2. 1 The responsibility of external auditors According to The South African Institute of Chartered Accountants ISA 240. (2008:6-7) the auditors should be able to obtain reasonable assurance that the financial statements being audited by them are free of any material misstatements whether caused by commission of fraud or error. The auditor should always maintain an attitude of professional skepticism throughout the audit.
The responsibility of external auditors has become more important since the indictment of Arthur Andersen and it ‘s perceived failure to uncover material financial misstatements in the financial statements. External auditors need to be bold and unbiased when in their audits they identify red flags that may show that fraud might have been committed. While it may be difficult in some instances to detect fraud or error because of inherent limitations of an audit, the onus is on the auditor to strive to apply ISA 240 to the best if his ability and to use his skills, experience, and judgment when conducting the audit.
According to Arens, Elder, Beasly & Splettstoesser-Hogeterp (2007:111) maintaining an attitude of professional skepticism does not mean auditors should have an attitude of distrust or disbelief in management but rather they should be alert to evidence that suggests documents or any other records have been tampered with. That’s why it is always required that auditors should maintain an objective, unbiased and independent mind, and give special attention to this area. The auditor should understand the entity’s internal control in its totality.
Fraud and other irregularities are different to errors as perpetrator intended deception and it could be a person that knows the operations and accounting systems of the company very much, and also the management may override internal controls and makes an effort to conceal the misstatements. It is important to note that whenever there is an accounting scandal or fraud has been committed. The question that always arise is “Where were the auditors? ” when this unfortunate events occurs. According to .
According to Arens,Elder, Beasly & Splettstoesser-Hogeterp (2007:288) auditors should maintain a questioning mind and set aside any previous trust in management’s integrity and honesty. Maintaining a questioning mind involves a critical evaluation of audit evidence presented to the auditors, they should diligently probe any audit issues and acquiring if necessary any additional evidence needed in the audit. Assignment number :01 Course code: HONOUDK Student number: 36894206 2. 2 The responsibility of management The South African Institute of Chartered Accountants ISA 240. 2008:4-5) states “The primary responsibility for the prevention and detection of fraud rests with both those charged with governance of the entity and with management”. Fraud deterrence and detection are one of the major concerns in our country today, and companies are increasingly becoming more serious in taking this responsibility in a practical way. According The South African Institute of Chartered Accountants ISA 240. (2008:4-5) continue to say that management must place a strong emphasis on fraud prevention and fraud deterrence so it may discourage employees and any stakeholder in the company to commit fraud .
It states that detection and punishment measures must be put in place. Management must be at forefront in encouraging that employees be honest in their work through different mediums of communication like workshops, policies, code of ethics, hiring policies, and being exemplary in what they communicate to employees. They must practice what they preach. According to Woolfell and Woolfell (1987:40) recommended that the tone set by top management is very influential in preventing fraudulent financial reporting within the corporate environment which financial reporting occurs.
The management must identify and assess factors that could lead to fraudulent financial reporting. This means that sufficient internal controls should be maintained that provide reasonable assurance that fraudulent activities and financial reporting would be prevented or detected. According to Arens, Elder, Beasly ; Splettstoesser-Hogeterp (2007:287) states if the company has weak internal controls it creates opportunities for theft and lack of segregation of duties gives licence for employees to commit theft.
Therefore I hold a view that management need to have sufficient internal controls, honesty and integrity of management. Employees need to know and understand and apply those internal controls in an vigorous manner to prevent fraud and errors. The internal controls of any company are as strong as it’s people who should apply them. It is responsibility of management to make employees aware of the existence and importance of such internal controls, and to constantly review the internal controls to make sure that they are adequate.
Also what is important is the internal audit function and audit committee in their role to monitor and review the adequacy of internal controls and their effectiveness in preventing fraud or error. Coordination with the audit committee should ensure that tone is reflected in an organization ‘s values and objectives. Assignment number :01 Course code: HONOUDK Student number: 36894206 3. Conclusion As mentioned above the external auditors and management cannot afford to take their responsibilities lightly. They have a deeper relook in what they have previously done so that they could improve going forward.
To be able to prevent accounting scandals management and external auditors need to be more alert and come up with plans and also work closely with the audit committee and the internal audit function. All entities involve with these coordination effort will benefit immensely as fraud and error will be greatly minimized and prevented. Lastly involvement of employees and other stakeholders will benefit the organization, it is much easier to deal with this if everyone understands the importance of all the wonderful plans that management comes with.
I have great confidence that the audit profession has learnt so many lessons and the laws governing the profession has been strengthen so that it would act much more professional in its conduct in executing their responsibilities. The management of entities has also learnt from corporate failures and that honesty and integrity are vital in their operations and in executing their responsibilities. Assignment number :01 Course code: HONOUDK Student number: 36894206 4. Bibliography 1. Arens, AA. , Elder, RJ. , Beasly, MS. ; Splettstoesser-Hogeterp, IB. 2007. Auditing and other Assurance Services. 10th Edition. Toronto. Pearson. Prentice Hall. 2. Encarta Dictionary. Internet. 28 April 2009 3. Enron Scandal. Wikipedia, the free encyclopedia. www. wikipedia. org. /wiki/Enron _Scandal. 28 April 2009 4. The South African Institute of Chartered Accountants ISA 240 . 2008. The Auditor’s Responsibility to Consider Fraud in an Audit. Johannesburg. Lexus Nexis pg 4-23 5. Woelfel, CJ & Woelfel, WJ. 1987. Fraud: The Inside Criminal. CPA Journal. March 1987. pg 41