Chapter 5 pt 4

Question 1

Where did the concept of auditors originate from?

Answer 1

1. In the 17th century, early trading companies like the Dutch East India Company operated for limited periods and had to report results before renewal, often with independent oversight.
2. During the Industrial Revolution, as long-term corporations emerged and sought external capital, annual reporting and AGMs became standard to ensure accountability to investors
3. Failures of Uk’s 1840s Railway boom saw minority shareholders suffer significant losses - law changed requiring an audit of annual accounts by independent party

Question 2

What did the UK Court of Appeal judge regarding Kingston Cotton Mill 1896

Answer 2

1. Auditors should be watchdogs not bloodhounds

Question 3

What are the key elements of an ESG audit that investors should consider?

Answer 3

1. The scope - business strategies, policies, operations
2. Timeline - when the assessment is being carried out and what periods are reviewed
3. How audit is conducted - info on checks and balances

Question 4

Describe requirements of assurance of ESG reporting

Answer 4

1. Voluntary in almost all markets
2. Not based on single universally accepted regulatory standards
3. Moves to develop single global standard

Question 5

What has been proposed as global standard for ESG audit?

Answer 5

1. The International Audit and Assurance Standards Board (IAASB), which has long had responsibility for setting global audit standards has proposed the International Standard on Sustainability Assurance (ISSA) 5000, General Requirements for Sustainability Assurance Engagements

Question 6

How do investors assess potential conflicts of interest?

Answer 6

1. looking at how much an audit firm is being paid for its audit work versus its consultancy work
2. whether a company has a policy to limit this risk
3. though this issue is not the only sign of conflicts.

Question 7

What have regulators about conflicts of interest in auditors?

Answer 7

1. Intervened to remove obvious ones
2. Significant decline in recent years of scope for auditors to provide non-audit services to clients
3. EU: provides a list of non-audit services that are the only ones an audit firm may provide to clients but also places a monetary limit (calculated in relation to the audit fee) on their overall value.

Question 8

How do auditors ensure behaviour independence?

Answer 8

1. natural tendency for individuals to seek consensus and for people to want to avoid disagreement or even confrontation with those they spend time with.
2. Every member of the audit team must work to avoid succumbing to such tendencies, and the audit partner overseeing the whole process needs to ensure that skepticism has been maintained throughout.
3. In particular, there must be enough time allowed for questions to be pursued fully, and enough scope for additional staffing if necessary

Question 9

What is auditor rotation rules?

Answer 9

1. In the EU, mandatory auditor or audit firm rotation (MFR) requires that public companies change their auditor after a legally set period.
2. The original maximum duration of the audit engagement is 10 years
3. Can be extended to a maximum of 20 years where a public tender (a competitive bidding process where the company invites multiple audit firms to submit proposals for taking over the audit work ) is held after 10 years.
4. If two auditors, via a joint audit, are simultaneously appointed after the expiry of the original 10-year period, then the audit engagement can be extended to a maximum of 24 years.

Question 10

What are arguments against auditor rotation?

Answer 10

1. With the incumbent barred from competing after 20 years and the other audit firms sometimes unwilling to give up valuable non-audit service contracts, there is a sub-optimal level of competition.
2. argued that auditor rotation might lead to issues being missed, either in the last year of a departing auditor or in the first year of a new auditor, but the reported impact has been positive

Question 11

What factors influence the depth of the audit sampling?

Answer 11

1. The auditor’s judgment on the quality of a company’s systems and controls
2. sometimes the audit budget, rather than purely the need for assurance.

Question 12

What did Sir Donald Brydon propose in his 2019 review?

Answer 12

1. That audit committees publish an annual audit and assurance plan and invite shareholder input to improve transparency and coordination.
   2, Title : “assess, assure and inform.”

Question 13

How is technology impacting audit sampling and what is limitation?

Answer 13

1. Big data and AI are enabling audits of entire transaction sets rather than just samples, though identifying anomalies in large datasets remains a challenge.
2. While it reduces the need for sampling, it doesn’t replace the need for intelligent interpretation of the data

Question 14

What are the 3 crucial elements in enhanced auditor reports?

Answer 14

1. Scope of the audit
2. Materiality
3. Key audit matters

Question 15

What is the scope of the audit?

Answer 15

1. how many parts of the company the audit has covered and in what depth.
2. Typically, an auditor will apply a full audit to the largest segments (usually geographies, but sometimes business segments)
3. will apply tailored audit procedures to others
4. but some segments may be ignored altogether.

Question 16

What is the materiality of an audit?

Answer 16

the financial threshold below which auditors don’t investigate further—this can be very high in large firms (e.g., $500M).

Question 17

What is the performance materiality of an audit?

Answer 17

1. The performance materiality number indicates the extent to which the auditor trusts the company’s financial systems
2. 75% of the overall materiality threshold is typical, whereas anything around 50% to 60% suggests a low level of confidence in the company’s financial controls.
3. Such lower levels of performance materiality might indicate a highly devolved organization or one whose controls should perhaps be enhanced, which can be a useful insight for investors.

Question 18

What are key audit matters?

Answer 18

1. concerns a handful of key areas of judgment in the accounts.
2. The way in which these issues are discussed and what auditors choose to highlight in their open discussion can reveal interesting and important insights.
3. The best auditor reports not only highlight the key areas of judgment but also indicate whether the company’s reporting on them is conservative, neutral, or aggressive
4. This so-called graduated audit adds real value to investors’ understanding of the company’s reported performance.

Question 19

Why might auditors avoid going beyond required work?

Answer 19

1. fears of unlimited liability.
2. In the U.S., auditors can’t limit their liability
3. even within limited liability firms, the responsible partner can face personal ruin.
4. Since lawsuits after corporate failures often target auditors and are settled privately, the real scale of liability risk remains uncertain.