Copyright © 2007 Pearson Education Canada 1 Chapter 2: Professional Relationships

Copyright © 2007 Pearson Education Canada 2-2 Chapter 2 Objectives  Explain the importance of ethics  Learn how to work through an ethical dilemma  Examine the difference between public accountants and other professionals  Discuss the role of a code of professional conduct for public accountants  Identify the facets of independence  List the reasons for audit committee involvement in the audit process  Focus on key rules of professional conduct  Identify rules of conduct enforcement processes

Copyright © 2007 Pearson Education Canada 2-3 What are ethics?  A set of moral principles or values  Unique for each individual  May or may not be considered explicitly  Differences arise because of: life experiences, successes and failures, influences of parents, teachers, religious organizations, friends

Copyright © 2007 Pearson Education Canada 2-4 Why do we need ethics?  Helps society function in an orderly manner  Some are incorporated into laws to help prevent people from behaving unethically (perhaps due to different standards or selfishness)

Copyright © 2007 Pearson Education Canada 2-5 Illustrative ethical principles (Figure 2-1, p. 34)  Trustworthiness  Respect  Responsibility  Fairness  Caring  Citizenship

Copyright © 2007 Pearson Education Canada 2-6 Resolving ethical dilemmas (where a decision must be made about appropriate behaviour) 1.Obtain the relevant facts 2.Identify the ethical issues from the facts 3.Determine who is affected by the outcome of the dilemma and how 4.Identify the alternatives available 5.Identify the likely consequence of each alternative 6.Decide on the appropriate action

Copyright © 2007 Pearson Education Canada 2-7 Practice problem 2-24 (p. 55)  Let’s look at an ethical dilemma that could occur in public practice  What would you do if you were Barbara?

Copyright © 2007 Pearson Education Canada 2-8 Why is ethical conduct important in professions?  The term “professional” carries a responsibility to the public  Public confidence is affected if a professional (e.g. doctor, lawyer, accountant, clergy) commit a crime  This happens because the general public cannot evaluate the competence of professionals

Copyright © 2007 Pearson Education Canada 2-9 How are accountants different from other professionals?  Third parties are involved in the accountability relationship: the accountant is hired by management, yet reports to shareholders  Other professionals are normally hired by the users of the service

Copyright © 2007 Pearson Education Canada 2-10 Triple trouble  Practice problem 2-22, page 54  This practice problem describes criminal behaviour on the part of the accountants  Who is “guilty?” Why?

Copyright © 2007 Pearson Education Canada 2-11 Encouraging high quality work among PAs

Copyright © 2007 Pearson Education Canada 2-12 Six basic principles governing conduct  Maintaining the good reputation of the profession  Perform services with integrity, due care; sustain professional competence  Be and remain free of influence (independence)  Duty of confidence (confidentiality)  Develop practice based upon professional excellence (advertising to be in good taste and accurate)  Professional courtesy should be maintained

Copyright © 2007 Pearson Education Canada 2-13 Practice problem 2-23 (p. 54)  General principles can be used to guide behaviour  What general principles has Gilbert violated?  How does this link to the professional rules of conduct?

Copyright © 2007 Pearson Education Canada 2-14 Independence  Independence in auditing means taking an unbiased viewpoint in the performance of audit tests, the evaluation of the results, and the issuance of the auditor’s reports  Three important concepts: – Independence in fact – Independence in appearance – Threats to independence

Copyright © 2007 Pearson Education Canada 2-15 Independence in fact  The auditor must be independent when conducting an audit or review level assurance engagement (independence is not required for a compilation)  Can you think of an example where the auditor is NOT factually independent?

Copyright © 2007 Pearson Education Canada 2-16 Independence in appearance  This aspect of independence is based upon the unbiased viewpoint of others  It is possible for you to believe that your are independent, whereas an unbiased observer might disagree with you  Can you think of an example?

Copyright © 2007 Pearson Education Canada 2-17 Threats to independence  The auditor is required to consider the five facets of independence before accepting or continuing an engagement  The threats are to be documented  If a situation exists that affects a threat, the auditor must document the actions taken, or decline the engagement

Copyright © 2007 Pearson Education Canada 2-18 Self-interest threat  Definition:  When the member has a financial interest in the client or in the financial results of the client  Example(s):  The firm or member owns shares in or has a loan to the client  The client fees are significant in relation to the total fee base of the PA or of the firm

Copyright © 2007 Pearson Education Canada 2-19 Self-review threat  Definition:  When the PA is placed in the position of having to audit his or her own work during the audit.  Example(s):  PA prepared original data or records for the client as part of a bookkeeping engagement. PA designed and implemented an accounting information system used to process client records.

Copyright © 2007 Pearson Education Canada 2-20 Advocacy threat  Definition:  When the firm or member is perceived to promote (or actually does promote) the client’s position.  Example(s):  PA is acting as an advocate in resolving a dispute with a major creditor of the client.  The firm or PA is promoting the sale of shares or other securities for the client, or is receiving a commission for such sales.

Copyright © 2007 Pearson Education Canada 2-21 Familiarity threat  Definition:  Occurs when it is difficult to behave with professional skepticism during the engagement.  Example(s):  There is a long association of senior staff with the client (e.g. being on the engagement for ten years)  A former partner of the firm is now the chief financial officer of the client

Copyright © 2007 Pearson Education Canada 2-22 Intimidation threat  Definition:  The client intimidates the firm or staff with respect to the content of the financial statements or with respect to the conduct of the audit.  Example(s):  The client threatens to replace the audit firm over a disclosure disagreement.  The client places a maximum upon the audit fee that is unrealistic with respect to the amount of work that needs to be completed.

Copyright © 2007 Pearson Education Canada 2-23 Importance of an audit committee  Consists of a sub- committee of the board of directors  Should be non- management and competent  Auditor should report to them  Adds significantly to external and internal auditor’s independence

Copyright © 2007 Pearson Education Canada 2-24 Practice question 2-18, p. 53  Review the purpose of an audit committee, and the roles that can be undertaken by audit committee members  Explain how this type of committee can be made more effective

Copyright © 2007 Pearson Education Canada 2-25 Aids to maintaining independence  Legal liability: you may be sued  Rules of professional conduct: identify do’s and don’t’s of financial and business relationships  Generally accepted auditing standards: maintain objectivity  Public accounting firm quality control standards: help provide reasonable assurance with respect to independence  Audit committee: helps maintain independence from management

Copyright © 2007 Pearson Education Canada 2-26 Aids to maintaining independence (continued)  Shopping for accounting principles: Section 7600 provides rules  Approval of auditor by shareholders: helps to provide more objectivity than management  Conclusion: Use a combination of all of the above to help maintain an unbiased business relationship

Copyright © 2007 Pearson Education Canada 2-27 Practice problem 2-20 (p. 54)  Three situations are described  How do these situations affect Marie Janes’ independence?

Copyright © 2007 Pearson Education Canada 2-28 Confidentiality  Members of all three accounting bodies shall not disclose any confidential client or employer information without the specific consent of the client or employer.

Copyright © 2007 Pearson Education Canada 2-29 Practice problem 2-19 (p. 53)  Stuck between confidentiality and fair presentation of financial statements …  What would you do?

Copyright © 2007 Pearson Education Canada 2-30 Advertising and Solicitation  All three accounting bodies prohibit solicitation of another accountant’s client and advertising which is not in keeping with the profession’s high standards  Advertising may include complimentary material about the accounting firm but should not claim any superior skills

Copyright © 2007 Pearson Education Canada 2-31 Professional Courtesy to Other Members Fact The ICAO rules of professional conduct require an auditor to communicate with the predecessor auditor and ask if there is any reason why the auditor should not undertake the audit. Question What do you do if the predecessor auditor does not co-operate with you and will not give you an answer?

Copyright © 2007 Pearson Education Canada 2-32 Practice Problem 2-16 (p. 52)  Use these practice problems to assess your knowledge of the professional rules of conduct  Remember to read a current copy of these rules from the web site of your provincial institute