Assessing Self-Review Threats in Accounting Practices

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Amsterdam Business School, University of Amsterdam *

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Nov 24, 2024

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1. A sole proprietor public accountant called X is one of a few directors and sole shareholder of a tax and corporate advisory firm (TCA). They are considered to be network firms as defined in the Code of Professional Conduct and Ethics (the Code). TCA provides book keeping services to approximately ten of X’s audit clients. X says that the accounting records of the clients are prepared by TCA’s staff and sent directly to the clients for review and approval. There is no conclusive evidence to say whether X signed off the accounting / book keeping work. Therefore, the question is whether X is responsible for the sign off of both the independent auditor’s reports and the accounting / book keeping work together with the compilation of unaudited accounts, such that a “self review threat” is created as per paragraph 100.10(b) of the Code; X has responded that:  Accounting assignments are managed by executive staff of TCA.  TCA accounting staff take instructions directly from the clients.  The client signs a letter of representation (LOR) when the accounts are compiled and completed. This requires the client’s financial officer to certify that he / she has reviewed all the transactions in the unaudited accounts to confirm they are in accordance with his / her instructions and that he / she has made available all documents for the accounting assignment.  The audit begins only after the accounts have been confirmed in the LOR. i.e. the accounting and audit work will not be undertaken at the same time. X was able to provide copies of the LORs and records showing who were the staff responsible for the accounting work and the audit work. Issues: Although it was known who performed the work, it was unclear whether the staff were employees of the audit practice of X or TCA at the time where the work was performed.

 There are no engagement letters for the TCA work. There are engagement letters for the audit work. It was unclear whether clients would have seen TCA and X’s audit practice as two separate entities or deemed these as one entity. There were however audit engagement letters and LORs.  It was unclear who was involved in final approval of TCA’s work prior to final deliveries to the clients. Considerations / Recommendations: In addressing self review threats, paragraph 100.11 says that safeguards created by the profession, legislation or regulation and safeguards in the work environment may eliminate or reduce such threats to an acceptable level. Paragraphs 100.12 to 100.15 elaborate on the nature of such safeguards. X has also responded that there are safeguards in place against self review threat, including:  the accounting function undertaken by independent book-keepers;  a director or manager of TCA to take charge of the accounting function from commencement of accounting/book-keeping work up to client sign-off;  the process / protocol initialed and filed separately in an accounting file; prior to releasing the file to the audit practice. In addition to the above safeguards, TCA should also ensure that clients understand that the two practices are separate entities, through issuing separate engagement letters from TCA to all the audit clients of X’s audit practice for TCA’s accounting / non audit services.

2. Company X approached audit firm A to audit its financial statements for the year ended a year ago. Company X informed audit firm A that they have attempted to reach its auditor from audit firm B for the past six months but to no avail and therefore decided to engage audit firm A to audit its financial statements for the year ended a year ago (the last financial year audited by B ended two years ago). Given the above circumstances, audit firm A has performed a search of audit firm B from the Accounting and Corporate Regulatory Authority (ACRA) and found out that audit firm B had been “removed” (dissolved). It was a sole proprietorship and the auditor being the sole proprietor, did not renew its practising license. Issue: Can audit firm A accept Company X for this audit engagement? Does audit firm A need to seek professional clearance given the above circumstances? Considerations / Recommendations: The Code of Professional Conduct and Ethics (the Code) requires a practising member to obtain professional clearance from an existing auditor before he/she accepts a nomination as the new auditor. Paragraphs SG210.17C and SG210.17D of the Code appear to imply that if after having exhausted all avenues to contact the existing auditor fails, the proposed practising member may accept the engagement if he/she is satisfied that there are no professional or other reasons for the proposed change after taking into account the guidance set out in paragraphs 210.10 to 210.18 of the Code. Proper documentation on this should be kept. Nevertheless, as this matter involves interpretation of paragraphs SG210.17C and SG210.17D of the Code, audit firm A should seek professional advice from its solicitors. Proper documentation on its communication with Company X client and the search of audit firm B should be kept to demonstrate that professional clearance is not possible given the circumstances, and that the best possible efforts to seek professional clearance have been performed but to no avail.

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3. You are the audit engagement partner at A Ltd, a small firm of public accountants. You were recently appointed as auditor to a local company named B Ltd. The previous auditors, Z & Co, had resigned due to having so few audit clients that it was no longer commercially viable for the firm to retain its registered public accounting firm status. This had provided the opportunity for your firm to take on the client and you and your fellow partners were delighted to be gaining an audit client in what was proving to be a difficult business environment. Times were certainly tough and you were well aware that redundancies were not out of the question if more work was not picked up quickly. You had met Mr X, B Ltd’s Managing Director (MD), at various local events and had a good personal relationship with him. Mr X was someone with a very good reputation in the local business community and was involved in a lot of charitable fundraising activities. You believed that this was a good client to win and, with Mr X’s considerable business connections, this might not be the only audit client that you would pick up in the coming months. Mr X had assured you that a good working pack would be prepared by his newly installed finance director (FD) to support the figures in the draft financial statements. Additionally, the client would arrange for the final publication of the accounts. Six months down the line, you are sitting at your desk reviewing the audit working papers of B Ltd. As you had imagined, the fieldwork had been done within budget and the files appeared to show that, as Mr X had earlier advised, the company had maintained a good set of records and produced appropriate documentation to support the draft figures. Some minor errors had been noted and added to the summary of unadjusted errors, but nothing of any significance, and you had all but finished your review. You looked at your watch, another 20 minutes would see you complete your task – the client was now keen to sign off in seven days time, three weeks earlier than had originally been envisaged. This had just allowed you time to review the files in advance of a meeting with Mr X and his FD later that week to discuss any major issues prior to signing. You continued with the task at hand and opened the creditors section of the file and reviewed the lead schedule. Everything this year appeared in line with that of the previous year. There were no major variations and, to be honest, you had not expected any. There was, however, a note from

the audit senior stating that a large accrual had been included for taxes – and indeed an accrual of $163,937 was included in the accounts. This appeared to consist of a charge of $15,000 for the year in question and the backlog of the amount which had been accrued in previous years. It was clear that the company had not made a payment of taxes for a period of 8 years. It had, however, ensured that the expense had been properly reflected in the accounts. You made a note of this and added it to your list of points to be discussed at the client meeting. You remembered that no mention was made of this fact in the consent letter which you had received from the predecessor auditor. You had not been given access to their working papers for the previous year. Whilst the accounts appear to be correctly stated, on the premise that taxes are due to be paid, you are concerned that it would appear as though the company had never tried to resolve this issue with the tax authorities. You also have concerns about how this item will be treated in the corporate tax computation. What do you do now? Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally  Given your firm’s financial situation (redundancies had been mooted) and the additional work you hope may be generated from your relationship with this client, is there additional pressure on you to placate the client? Is there someone within your firm with whom you can discuss the issue? II. For the public accounting firm  The company has correctly accounted for the situation but is this sufficient? If the company received a bill to pay all of the outstanding taxes immediately would it have sufficient cash resources to do so? Does this have an impact on your assessment of going concern?

 Although the company has correctly accounted for this matter, how has the tax figure been treated in previous corporate tax returns?  If the tax authorities discovered their discrepancy at a later date, would this impact on your firm’s reputation? III. Who are the key parties who can influence, or will be affected by, your decision?  ‘You’; your fellow partners; the MD; the other directors of B Ltd; the shareholders (if different from the directors); the general public; and tax authorities. IV. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them? - Integrity: The need to have a full and frank open discussion on this issue with the MD and the FD of B Ltd. What happens if they are resolute in continuing as is? - Objectivity: As this is a new client, this might naturally be assumed, however the economic conditions and the possible additional work that might come your way are a potential threat to your objectivity. - Confidentiality: Assumed, but is there a wider social responsibility? - Professional behaviour: Does it serve the public interest for this situation to continue and how does this contrast with the need for confidentiality? V. Is there any further information (including legal obligations) or discussion that might be relevant?  You obviously have to discuss the issue with the MD and FD of B Ltd at the forthcoming meeting to get a handle on all the relevant facts. VI. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities?

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 It would appear that there may be a conflict. The commercial interests of the firm are properly best served by not pressurising the company to report this matter to the tax authorities but how does that equate with the auditor’s ‘Guardian’ role? VII. Based on the information available, is there scope for an imaginative solution?  You could explain the potential consequences to the MD if this error is ever discovered by the tax authorities and encourage him to get the company to voluntarily approach the tax authorities with a view to seeing whether they would accept a delayed settlement of any sums due, preferably spread over a number of years and with little or no associated interest or penalties and with no related publicity. Additionally, you may wish to highlight to the MD that if there are plans to sell the company then any due diligence undertaken on behalf of the prospective purchaser is likely to discover this non-payment of taxes which could impact on the sale.

4. You are an audit partner in a local office of a large accountancy firm ABC LLP. One of your biggest clients is Z Ltd, a company which undertakes major construction projects such as building new roads, motorways etc. Until last year the company had been very profitable but the economic downturn has started to hit the company hard. You are preparing for the final audit meeting with the client at which you will discuss your main findings and any adjustments which are required to the accounts. The big issue is clear “Is the company still a going concern?” This issue has caused you many sleepless nights of late – you like the people who run this company and you are well aware of the impact that the closure of this business would have on its employees. You are also well aware that it would most likely have a negative impact on your immediate career prospects. The company’s year-end was 31 August and your firm carried out most of its work during October. At that time everything looked fine, however, recently you noticed that one of the company’s major customers, D Ltd had been placed in administration. Although you are not sure of the amount of work carried out post year end you do know that further work was carried out for this client. You are also aware that at the company’s year-end D Ltd owed Z Ltd $1,800,000. You were aware that D Ltd were disputing the amount due but such a stalling tactic was commonplace in the industry – you had fully expected the vast majority of the sum due to be paid. This is all now in doubt. At the meeting with the client, you are surprised to find that the Financial Director is not able to attend the meeting due to ill health. After the usual small talk you ask whether the client has made any provision in relation to the amount due from D Ltd and also whether it has updated its projections to take account of this. Mr X, the company’s Chief Executive, advises you that he does not believe this to be necessary. He informs you that the administrator has advised him that D Ltd will be able to meet all of its current outstanding debts. You advise Mr X that you sincerely hope that this will indeed be the case but that you will need to check with the administrator directly. Mr X asks why this is necessary as he is happy to give you a letter to that effect. You advise Mr X that you have to do your job.

Mr X stands up and starts shouting: “You have been our auditor for years, at the first sign of trouble you appear willing to help the bank shut our doors, the effect of which will be a disaster for our employees and also for your firm. All we are asking for is time – to let us trade out of this situation. As far as I am concerned, the accounts will not be altered. You can do as you wish – however, remember what I have told you – our employees need businesses like ours. I will let them know who caused the closure of this business, if that is what it comes to!” What do you do now? Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally  The need to be truthful and honest with your client. You have a responsibility to issue an opinion on the truth and fairness of the financial statements on behalf of your firm and auditing standards require you to gather sufficient evidence to allow you do this.  If the full debt due from D Ltd has to be written off, what is the current financial position of the company? II. Who are the key parties who can influence, or will be affected by, your decision?  ‘You’; your fellow partners; the Chief Executive and other directors of Z Ltd; the shareholders (if different from the directors); the employees; the bank; any other creditors; and possibly customers. III. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them?  Integrity: The need to be truthful and honest with your client. You have a responsibility to issue an opinion on the truth and fairness of the financial statements and auditing standards require you to gather sufficient evidence to allow you to do this.

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 Objectivity: It is imperative that you retain your objectivity in order that you can remain in the role of auditor.  Professional behaviour: The need to follow all relevant standards. This will require you to obtain sufficient audit evidence on which to base your audit opinion. If the client attempts to prevent you from obtaining the necessary evidence then the repercussions should be explained to the client. IV. Is there any further information (including legal obligations) or discussion that might be relevant?  The likely level of debt recovery that the administrator expects. Additionally, what other contracts is the company currently working on and how profitable are they? Likewise, what other contracts is the company contracted to commence work on and how profitable are they forecast to be? V. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities?  There may be commercial pressures to help the client to maintain its funding package with the bank, however, the ‘Guardian’ role requires that the auditor has to report on whether the financial statements show a true and fair view of the company’s financial performance and position.

5. You are a recently appointed audit partner in a large independent firm of accountants. You are delighted that you are now a partner and can’t wait to sign off your first set of accounts. Your firm recently won an audit tender for a medium-sized family owned company, A Ltd, and the firm’s managing partner has allocated the client to you. The managing partner is reasonably close to the family which owns A Ltd and you believe that this is at least part of the reason why the company decided to appoint your firm. As is normal, you go through all the firm’s new client procedures which include writing to the previous auditors and also obtaining sets of statutory accounts for the previous 3 years. When you receive the written reply from the previous auditors, you note that they have nothing to report other than any matters addressed in their audit report. This seems strange, so you quickly review the company’s set of financial statements for the previous year and note that the company’s audit report was qualified on the basis of non-compliance with an accounting standard. The audit report highlights that the company owns a property and advises that the directors, on cost grounds, decided not to have an FRS 16 valuation performed. The audit opinion adds that the auditor is unable to quantify the impact of this non-compliance with FRS 16. You wish that you had access to the working papers of the predecessor auditors but the relevant audit regulation was not applicable at this time. You are considering the impact of this issue when Mr X, the Managing Partner, comes into your office. He provides you with an oral briefing on A Ltd and then asks you whether you have any queries. You inform Mr X what you have found. Mr X replies: “I do not see any problems; if the client does not believe that it is worth paying for this information then who are we to tell them otherwise: it is a family business after all. If we have to, we can adopt the same approach as the previous auditors and qualify the audit report on the same grounds.” That is when you inform him that you have doubts as to whether the audit qualification issued was appropriate in the circumstances. The previous auditors issued an “except for – disagreement with accounting treatment – due to non compliance with an accounting standard” and you believe that a “limitation of scope” opinion may have been more appropriate. You are not sure but you surmise that this may be because of the requirement that if a client places a limitation of

scope on the work of the auditors which will require the auditor to issue a disclaimer of opinion, in advance of the auditors accepting that appointment, then unless the restriction is removed, the auditor should not continue in office for that particular client. Mr X replies that you should go ahead and reassess the position once the audit fieldwork has been completed by your team. However, he adds: “Bear in mind that although the Managing Director (MD), is an acquaintance it has taken me a number of years to get him to use our firm as auditors – I do not want to do anything that would upset him unnecessarily and jeopardise our business relationship.” You are now reviewing the audit files of A Ltd for the year in question. The company has a turnover of around $18 million and is showing a profit of$2,900,000 for the year after taking account of the proposed audit adjustments. However, you notice that the directors have once again refused to obtain an FRS 16 valuation and therefore no gain or loss on revaluation is reflected in the accounts. You realise that the lack of an FRS 16 valuation will mean that you will have to qualify your first audit opinion. Whilst this concerns you, what really worries you is the type of qualification that will be required i.e. a limitation of scope. If the extent of this limitation leads you to issue a disclaimer of opinion, then your firm would not be able to act for this client going forward unless the client changes its stance on obtaining FRS 16 valuations. Mr X will be furious if you adopt this approach. What do you do now? Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally  Even at this late stage would it be possible for you and Mr X to convince the MD and his fellow directors of the need for A Ltd to get an FRS 16 valuation performed? Have you explained to the MD that your firm will possibly not be able to act as auditors if the ongoing limitation of scope is not removed?

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 Is there any other way that sufficient audit evidence could be obtained to allow a proper assessment of the non-compliance with FRS 16?  If neither of these options is possible, can you convince Mr X that the only way forward is to issue either a qualified opinion (except for limitation) or a disclaimer of opinion if the possible effect of the limitation on scope is so material and pervasive that you are unable to express an opinion on the financial statements. II. For the audit firm  Is there a formal process for review by another audit partner where the firm is set to issue a qualified audit opinion?  Would your fellow partners be willing to risk the reputation of the firm by issuing an audit opinion which does not appear to properly reflect the nature of the matter requiring the qualification? III. Who are the key parties who can influence, or will be affected by, your decision?  ‘You’; your fellow partners; the directors of A Ltd; the shareholders of A Ltd; customers; suppliers; and employees of A Ltd. IV. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them?  Integrity: You need to be open and honest in your views to the client and to your Managing Partner. Your integrity will be questioned if you follow a course of action that you have doubts about. You need to be able to satisfy yourself that you are issuing an appropriate audit opinion.  Objectivity: You need to ensure that your decision is not swayed by any pressure that may be put on you by the client or your managing partner.  Professional behaviour: The need to show professional courage and ensure that the most appropriate audit opinion is issued in the circumstances.

V. Is there any further information (including legal obligations) or discussion that might be relevant?  More information with regards to the property would be helpful. VI. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities?  The commercial pressure may well be to keep the client (although this may be diluted because there is a real financial risk to both you personally and the other partners in your firm if the property is heavily impaired and the auditors were seen to be negligent in their approach). Any such commercial pressure that does exist may conflict with the ‘Guardian’ role which will be to ensure that the auditor is fully transparent in his audit opinion in relation to A Ltd’s financial statements. VII. Based on the information available, is there scope for an imaginative solution?  The first option is to try and persuade A Ltd of the need to obtain an FRS 16 valuation. The benefits of having a clean audit opinion should be conveyed to the directors to help them arrive at a more informed judgement as to whether the company should or should not obtain a valuation.  It may be possible to obtain sufficient other information to allow an assessment of the property in the audit opinion, which although not removing the need for a qualified audit report would possibly remove the need for a disclaimer of opinion.

6. You are a salaried corporate finance partner in a mid-tier accountancy firm, ABC & Co. The current economic climate is such that the number of deals taking place has fallen significantly and both current work and prospects in the pipeline are low – the M&A market has all but disappeared – you have never known it to be so inactive. As a result of the economic conditions your firm is currently undertaking a cost review exercise and it is rumoured that the headcount – both staff and salaried partners – will be reduced significantly. The mood in the office is apprehensive, as salaried partners and staff worry about their positions. Mr X, the Managing Partner, has issued an edict encouraging partners and staff to work longer hours and chase all potential business opportunities. You have been working as an adviser to a significant non-audit, owner-managed business client of the firm, Z Ltd. The company is large in size and, although like most businesses they are finding trading conditions difficult, they are managing to keep their head above the turbulent water. However, a number of years ago the company branched into another area in which it set up a subsidiary company, P Ltd. The subsidiary has performed steadily but the directors now feel that in order for this subsidiary to grow further it needs additional capital. The directors have decided that providing additional capital at this point in time does not feature in their current strategic plans and have therefore decided to dispose of P Ltd. Whilst the directors appreciate that economic conditions are difficult and uncertain, they are very keen that the subsidiary is not sold at a “fire sale” price. If push comes to shove they would rather retain P Ltd than sell it for significantly less that it is worth. The subsidiary has now been on the market for several weeks attracting a fair degree of interest from potential purchasers. In the last fortnight however, a frontrunner, R Ltd, emerged and following appropriate due diligence, the deal is now nearing completion. Your fees have been agreed in advance on a contingent fee basis, meaning that the fee for the transaction will be based on a percentage of the consideration achieved and you will receive no fee if the deal does not proceed. In your mind this deal must be completed – you cannot afford to write off the amount of time you have now spent working on this transaction – successful completion and the associated fees attained will provide you with some time to get further

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prospective transactions in the pipeline and therefore safeguard your position at the firm at least in the short-term – that may be enough for you to ride out the current economic storm. On the day the deal is due to be completed, you are summoned by your Managing Partner. He informs you that he has been very impressed by the manner in which you have led this assignment – all that is needed now, is for both parties, the buyer and seller to sign on the dotted line. Ominously, however, Mr X adds that this deal is now vital to the survival of the firm’s corporate finance department – the firm has already seen a couple of mooted M&A transactions fall by the wayside in recent days – the firm just could not afford another one – it would not just be your job that would be on the line. You then leave for the meeting with your client with the words of your Managing Partner ringing in your ears “a deal must be done!” On arrival at the meeting which you had hoped would be a straightforward crossing of the “t’s” and dotting of the “i’s” you are aghast to find out that at the 11th hour, the prospective buyer, R Ltd, has substantially lowered their offer for your client’s business, citing the downturn in the economy – they are a bit late, you think to yourself – and you wonder whether this has been a carefully orchestrated ploy to try and force your client’s hand – the other prospective bidders have long since left the table. You appreciate that if your client still wants to go ahead with this transaction then they will have to lower their expectations, however, your experience and skill as a corporate finance adviser tells you that R Ltd’s revised offer undervalues the target company. Your first course of action is to try and get the purchaser to raise their offer back to their original intended amount – however, unfortunately you are unsuccessful at negotiating an increase in the price on behalf of your client. The purchasers are adamant – this is a take it or leave it final offer. You update your client, at which point the directors ask you whether the prospective purchaser’s offer represents a fair value for the subsidiary in the current economic climate, noting that they will go with your recommendation. What do you do now?

Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally  The purchaser has made a revised reduced offer for your client’s subsidiary business. You do not believe this to be a reasonable offer for the business but have you given sufficient consideration to the state of the economy when arriving at your valuation?  There would appear to be considerable pressure on you and your firm for this deal to go through. Can you properly manage this pressure without it impacting on your professional judgment? II. Who are the key parties who can influence, or will be affected by, your decision?  ‘You’; potentially your family; your fellow partners and staff; your client; and the prospective purchaser. III. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them?  Integrity: The need to be open and honest with your client. Is the prospective purchaser’s offer reasonable in the current economic climate?  Objectivity: How do you ignore the commercial pressures which you have been put under?  Professional behaviour: The need to disregard anything other than the task at hand which is advising your client on the proposed sale of their subsidiary company. Given the economic conditions, is the prospective purchaser’s offer reasonable? IV. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities?  The commercial pressure which you are under to force through the deal conflicts with the ‘Guardian’ role, which in this case requires you to act in the best interests of your client

regardless of whether this may not appear to be in your or your firm’s short-term best interests. V. Based on the information available, is there scope for an imaginative solution?  An approach could potentially be made to the other previously interested parties to see whether they would still be willing to discuss a potential purchase. VI. Are there any other comments?  The case study highlights the dangers from both a firm and client perspective of agreeing to undertake an engagement on a contingent fee basis.

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7. You are an audit senior manager for a manufacturing client where your firm’s working relationships with the Group’s long-standing Finance Director, Mr X, are notoriously ‘difficult’. Too often, he seems to equate ‘compromise’ with ‘weakness’ so that he makes few concessions to his position without protracted negotiations, whether on timetables, interpretation of Standards or fees. This can become disconcerting, not just because they seem unnecessarily time- consuming but the outcomes can seem unreasonable too. For example, when, at the last audit, your firm had resolutely insisted on a more conservative valuation of long-term contracts, Mr X had dropped several unsubtle hints that the engagement should be put out early to tender. Frustratingly, to the client’s Audit Committee, Mr X’s approach seems characterised not as, ‘difficult’ but as, ‘principled’. Some weeks ago, Mr Y, the engagement partner, asked you to ’sort out’ the accountancy and financial statements of a small private company that had been set up a few years ago to make artistic films. This company had been persistently loss making and its one film, which had taken significantly longer to release than expected, had flopped at the box-office. During the leisurely production process, significant sums seemed to have been spent on hotels and restaurants. The shareholders and directors of the company are a young film director and the young actress who starred in the film. They are ‘resting’ and have told you that the company too is now dormant and will be wound up. There are just enough funds to cover the costs of this and of residual bills. Apart from a few small grants, the majority of the finance had been by way of loans that will not now be repaid. You were very surprised to discover that the source of all these loans had been Mr X. He had also given personal guarantees that all trade creditors will be paid. As requested by Mr Y, you have worked closely with a colleague in your firm’s tax department to progress the efficient submission to IRAS of tax computations for the film company. Alongside this, some advice was

given personally to Mr X on the idiosyncrasies of tax and film finance. Apparently, he had previously always dealt with his own tax affairs. At the start of the assignment two separate charge codes, Accountancy and Tax were set up for the film company. Time costs for the work, at your firm’s normal rates, have amounted to $20,000 for dealing with the Accountancy and $4,000 for the Tax. Mr Y has now sent you instructions relating to monthly billings. These include:  A fee note of $2,000 to be issued to the film company with $2,000 of accountancy time costs written off against it. The Accountancy code is then to be closed.  The residual $18,000 is to be transferred to a ‘Special Work’ client account of the Group. This already has in it the time costs of $12,000 for an investigation into a stock discrepancy carried out earlier in the year. The partner tells you that the $4,000 of tax time will also be transferred across.  The raising of two further fee notes, one for $27,500 addressed to the Group and one for $500 to be sent to Mr X personally at his home address. In all cases the fee notes’ descriptions are to be limited to “agreed professional fees”. You have asked Mr Y in person to confirm these arrangements. Clearly very amused, Mr Y explained that Mr X had funded the film company over the years on the persuasion of the young actress, who was revealed to be his niece. Mr X now accepts his investment was seriously flawed and that the loans will never be re-paid. He is keen, to the extent legally possible, to minimise further his personal expenditure while gaining any tax advantages available. Moreover, the situation is, for him, one of considerable potential embarrassment. He wants the maximum discretion. He is now very grateful to the firm for the work done and, after some remarkably swift negotiation, has approved the three billings represented by Mr Y’s instructions. Mr X accepts one further note of fee will be necessary for

completing the tax work. This will go to the film company and, as with all the other residual creditors, Mr X will ensure personally that it is paid. Mr Y commented that the total billing of $30,000 against incurred costs of $36,000, at 83%, was not as good a recovery as he would have hoped, or might even have negotiated. Yet, this has been his favourite assignment of the year. He added: I could probably have gone for much higher margins. But I think that it will prove better in the long-term not to have been greedy. Of course, I know Mr X’s gratitude won’t linger forever. Even so, I think he may be just that bit more co-operative and less aggressive in future. When he reflects that we haven’t taken advantage of him and thinks carefully about what we now know, I sense that we will be able to count on his loyalty right through to his retirement! And given how much the old fool has lost on his star-wannabe niece, he’ll need to go on working for a good few years yet! When you now ask Mr Y about the ethics of transferring the time costs between clients that have no formal relationship and the apparent subsidy to Mr X personally, he replies: OK, I know that I appear to be charging $27,500 to the Group for an assignment that incurred costs of only $12,000. But the Audit Committee delegated to Mr X the authority to agree fee notes of up to $30,000 for that stock investigation. This time it came in at less. Because of Mr X’s attitudes in the past we have not been able to recover as much as we should for good work. As for the film company job, I had no real clue from Mr X when we went into it just how heavily he was involved. He said it was primarily a referral to help friends where he has no official, company status. It seemed like useful one-off work when staff members were not busy. Maybe, with hindsight, we wouldn’t have taken it. Still, we’ve tidied up a mess and what the Audit Committee members don’t know won’t grieve them. Mr X is hardly likely to start revealing all! Overall, I haven’t even pressed for full recovery. No one can tell me the recovery that I have to make on any individual fee note. If I choose, say, zero fee for one piece of work, only 10% for

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another but 230% for a third, that is my commercial decision. If this gives you a real problem, just don’t transfer time costs between client codes and then don’t make any explicit connections. But it will simply be less effort to report one recovery of 100% and one of 82% for our billing department, rather than explaining the detail of 10% here and 200% plus there. The fee income is a done deal; the end result is the same; stand by for a new, more co-operative Mr X!” What do you do now? Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally - Do you consider yourself compromised ethically by the initial instructions over billing, such that you need to take alternative action? - If so what action? II. For the CPA Singapore firm - Has an unacceptable conflict of interest arisen from doing, essentially, personal work for a client’s FD, even though formally he is neither a shareholder nor officer of the film company? - How do you deal effectively with the sensitivities of billing for professional work and the difficulties of valuing and gaining a perceived ‘fair’ recovery from a client where there is a determination by the client to haggle over everything? - Can the outcome – while imperfect- is justified on the grounds that the audit firm will be more secure and be able to take a ‘tougher’ line as auditors in future? Or, is the solution, (of apparent exploitation of a lack of transparency in the billing process) symptomatic of an overall lack of professional integrity in the relationships? III. Who are the key parties who can influence, or will be affected by, your decision?

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- ‘You’, as a senior manager (aspiring partner); Mr Y as engagement partner; Mr X as commissioner of professional work, negotiator over fees and officer of the company; the Audit Committee as overseer of the process; the Group’s stakeholders (including IRAS); the film company’s creditors (excluding Mr X). IV. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them? - Integrity: Do billing arrangements agreed between Mr Y and Mr X represent honesty, full truthfulness and fairness? - Objectivity: Has the tense relationship with Mr X over fees been replaced with another, if covert, set of dynamics for achieving pragmatic completion of mutual tasks in relation to the company? - Professional competence and due care: Assumed - Confidentiality: Could the Audit Committee justifiably consider that it should have been informed of the ‘new’ assignment, once the details of Mr X’s involvement were known? By contrast could Mr X justifiably consider that any initiative now by the audit firm to refer to his (indirect) relationship with the film company would be a breach of other expectations of confidentiality? Over the longer term, there could be a loss of respect in an environment where the exchange of ‘favours’ between auditors and officers, at the apparent expense of others, seems the norm. - Professional behaviour: However, in the short and medium term, is Mr Y’s approach towards Mr X and to the billing an instance of where the ‘end’ of strengthening the auditor’s position in relation to an ‘awkward character’ justifies an opportunistic and dubious ‘means’? V. Is there any further information (including legal obligations) or discussion that might be relevant?

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- Knowing precisely when Mr Y realised the extent of Mr X’s involvement with the film company, hence the possible desirability of the transfer of work to another firm- albeit inefficiently for its winding up and likely to lead to added costs / irritation for Mr X. - More about the working relationship between Audit Committee and Mr X but in practice you may only ever be able to surmise, rather than know with any certainty, the details. - The skills and integrity of the members of the Audit Committee (or maybe this should make no difference?). - The full extent of the billing and recovery arrangements between the firm and the client, although it can be assumed that $30,000 is significant but not substantial. VI. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities? - Yes. This appears to be a classic instance of a conflict between an accountant’s ‘Commercial’ and ‘Guardian’ responsibilities. - From a ‘Commercial’ perspective, you can accept that a compromise is a necessity, if messy. Clearly, some self-interest and fees are needed to keep a firm continuing as auditor. As noted in the opening paragraph, relationships have been strained with Mr X’s uncompromising attitudes to negotiation on technical views and on fees. The pragmatic outcome here seems to have provided some benefits to most parties ~ extra billing for staff (Mr Y); a personal problem sorted at lower cost (Mr X); a failed company sorted out with creditor recovery (creditors / public); an increased informal leverage for the Auditors over the Finance Director (the firm). - However, the outcome for a ‘Guardian’ role seems less satisfactory in that the Audit Committee, and through them other stakeholders, appear in this instance to have been hoodwinked through collusion. The Group is paying $27,500 where the auditor’s recorded costs are $12,000 (although they were prepared to pay up to $30,000 relying on Mr X to check more

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precisely). Although the Audit Committee have delegated to the FD responsibility for agreeing fees; the materiality level is more reasonable for the Group but not individuals. - The Auditor’s future informal leverage over the Finance Director could be open to abuse. VII. Based on the information available, is there scope for an imaginative solution? - Probably not. Clearly you could ‘whistle-blow’ by retrospectively disclosing the situation directly to the Audit Committee but otherwise ‘you’ appear to have few options, especially if you act as an individual. Even if your firm contact the Group’s Audit Committee to tell retrospectively about the film company assignment and the substance (if not the form) of the conflict of interest, it is uncertain what this might achieve ~ beyond seriously embarrassing Mr X and exacerbating the troubled relationship with him. The Audit Committee might in future be less likely to trust Mr X, and could even press for a reprimand but not necessarily for his dismissal. - Hence, following any such disclosures, deterioration of working relationships for the audit could lead to the early loss of the appointment. Whilst this would be likely to bring adverse reputational and commercial repercussions for your firm and, hence, yourself, without a change by Mr X, there could be only limited expectations of improved conditions for another CPA Singapore firm taking on the assignment. Are there any other comments? Is this situation acceptable as bringing the ‘least bad’ outcome within an imperfect systemic arrangement, where human relationships and weaknesses have also to be accommodated? However, is it acceptable for you as a CPA Singapore that your employer has been, apparently, so accommodating to Mr X?

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8. You are a CPA Singapore working in the insolvency department of a medium-sized accountancy firm. You are currently working on the sale of a piece of land that belonged to a company that has gone into liquidation. The deadline for the sale of the land has been set at 12.00 pm on that day. At 11.30 am you receive a call from a prospective buyer who wishes to remain anonymous. The caller informs you that he is very interested in the land but does not want to have to pay over the odds to ensure that he gets it. Therefore, he makes the following proposition to you: He is willing to pay a premium of 15% above the highest bid received by 11.55 am provided he is informed beforehand of the highest bid received. The caller advises that this way everyone wins as he explains succinctly as follows: “Your firm and ultimately the bank win because a higher fee is received for the asset in question, I win because I do not have to make an unnecessarily high blind bid and you will also be rewarded by me for your hard work.” He adds that this illustrates that “transparency is the best policy”. The caller reiterates that this is the most effective outcome for all parties concerned and that your boss will be delighted that a last minute offer has at least ensured a reasonable return for the asset in question. The bank will also be very pleased as this sale will increase its level of return on the debt outstanding. You advise the caller that this is not the way that you or your firm do business and that if he wants to attempt to purchase the land then he should follow the required procedure of the sale and email his bid prior to the midday deadline. The caller advises that he respects your integrity but advises that this type of activity is commonplace in the industry and insinuates without naming names that other more senior personnel within your firm have taken advantage of his very generous financial terms in the past.

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Furthermore, the bank is unlikely to be happy if it was to find out that your firm had rejected a higher bid than what was eventually obtained for the asset. This could have a serious impact on any future work being awarded to your firm and your own career would suffer as a result. The caller then advises that he will phone you back in five minutes for a decision as to whether you will accept his proposition. You do not get a chance to reply, as the caller then hangs up. What do you do now? Analysis of Scenario: What are the readily-identifiable ethical issues for your decision? I. For you personally - The first issue is do you immediately raise this with someone senior before the caller phones back? - Secondly, when the caller does phone back do you transfer the call to someone more senior, do you get someone more senior to listen in to the conversation or do you merely deal with the caller yourself? - The third issue is do you raise sensitively and professionally, the caller’s accusation relating to senior staff internally within your firm. Consideration should be given to discussing the matter with your firm’s ethics partner, if there is one, or if not, with a trusted partner within the firm? II. Who are the key parties who can influence, or will be affected by, your decision? - ‘You’; the caller; the partners and staff in your firm; the bank; other creditors; and other prospective buyers. III. What fundamental ethical principles for accountants are most applicable and is there an apparent conflict between them? - Integrity: Can you retain your integrity if you distort the tender process? How do you deal with the caller’s allegations about more senior personnel within your firm?

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- Objectivity: The need to consider the interests of all of the other parties involved in the tender process. - Professional competence and due care: Assumed. - Confidentiality: How could one justify divulging confidential information to the caller in the interests of maximising the selling price of the land? - Professional behaviour: You have to handle the client’s allegations sensitively and professionally. You have no knowledge as to the accuracy of the allegations made by the caller. IV. Is there a conflict between the ‘Guardian’ and ‘Commercial’ strands of an accountant’s responsibilities? - From the given information, the firm and the bank would appear to be better off commercially if the information is divulged, although this is not certain as a late bid from an unnamed prospective buyer may yet be received prior to the deadline. The ‘Guardian’ aspect in this scenario is to ensure that a fair tender process is held which appears to be in conflict with the short-term commercial pressure.

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