2. 3 - 1 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Professional Ethics Chapter 3

3. 3 - 2 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 1 Distinguish ethical from unethical behavior in personal and professional contexts.

4. 3 - 3 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley What are Ethics? Ethics can be defined broadly as. a set of moral principles or values. Each of us has such a set of values. We may or may not have considered them explicitly.

5. 3 - 4 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Need for Ethics Ethical behavior is necessary for a society to function in an orderly manner. The need for ethics in society is sufficiently important that many commonly held ethical values are incorporated into laws.

6. 3 - 5 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Why People Act Unethically The person’s ethical standards are different from those of society as a whole. The person chooses to act selfishly. In many instances, both reasons exist.

7. 3 - 6 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Prescribed Ethical Principles Trustworthiness Respect Fairness Responsibility Caring Citizenship

8. 3 - 7 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley A Person’s Ethical Standards Differ from General Society EmbezzlersCon artistsShoplifters Most people who commit such acts feel no remorse when they are apprehended because their ethical standards differ from those of society as a whole.

9. 3 - 8 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley A Person Chooses to Act Selfishly – Example Person A finds a briefcase containing important papers and $1,000. He tosses the briefcase and keeps the money. He brags to his friends about his good fortune. This action probably differs from most of society.

10. 3 - 9 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley A Person Chooses to Act Selfishly – Example Person B faces the same situation but responds differently. He keeps the money but leaves the briefcase. He tells nobody and spends the money. He has violated his own ethical standards and chose to act selfishly.

11. 3 - 10 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 2 Resolve ethical dilemmas using an ethical framework.

12. 3 - 11 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Dilemmas An ethical dilemma is a situation a person faces in which a decision must be made about appropriate behavior.

13. 3 - 12 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Rationalizing Unethical Behavior Everybody does it. If it’s legal, it’s ethical. Likelihood of discovery and consequences

14. 3 - 13 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Resolving Ethical Dilemmas 1. Obtain the relevant facts. 2. Identify the ethical issues from the facts. 3. Determine who is affected.

15. 3 - 14 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Resolving Ethical Dilemmas 4. Identify the alternatives available to the person who must resolve the dilemma. 5. Identify the likely consequence of each alternative. 6. Decide the appropriate action.

16. 3 - 15 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Dilemma A staff person has been informed that he will work hours without recording them as hours worked. Firm policy prohibits this practice. Another staff person has stated that this is common practice in the firm.

17. 3 - 16 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Dilemma Is it ethical for the staff person to work hours and not record them as hours worked in this situation? Who is affected? How are they affected? What alternatives does the staff person have?

18. 3 - 17 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 3 Explain the importance of ethical conduct for the accounting profession.

19. 3 - 18 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Special Need for Ethical Conduct in Professions Our society has attached a special. meaning to the term professional. A professional is expected to conduct himself or herself at a higher level than most other members of society.

20. 3 - 19 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley CPAs Encouraged to Conduct Themselves at a High Level Conduct of CPA firm personnel CPA examination GAAS and interpretations Continuing education requirements

21. 3 - 20 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley CPAs Encouraged to Conduct Themselves at a High Level Conduct of CPA firm personnel SEC Peer review Quality control

22. 3 - 21 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley CPAs Encouraged to Conduct Themselves at a High Level Conduct of CPA firm personnel Legal liability Division of CPA firms Code of Professional Conduct

23. 3 - 22 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 4 Describe the purpose and content of the AICPA Code of Professional Conduct. Describe the purpose and content of the AICPA Code of Professional Conduct.

24. 3 - 23 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Code of Professional Conduct Principles Ideal standards of ethical conduct in philosophical terms They are not enforceable. Rules of conduct Minimum standards of ethical conduct stated as specific rules They are enforceable.

25. 3 - 24 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Code of Professional Conduct Interpretation of the rules of conduct Interpretation of the rules of conduct by the AICPA Division of Professional Ethics They are not enforceable, but a practitioner must justify departure. They are not enforceable, but a practitioner must justify departure.

26. 3 - 25 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Code of Professional Conduct Ethical rulings Published explanations and answers to questions about the rules of conduct submitted to the AICPA by practitioners and others interested in ethical requirements They are not enforceable, but a practitioner must justify departure. They are not enforceable, but a practitioner must justify departure.

27. 3 - 26 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Principles 1. Responsibilities Professionals should exercise sensitive and moral judgments in all their activities. Members should accept the obligation to act in a way that will serve and honor the public. 2. Public Interest

28. 3 - 27 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Principles 3. Integrity Members should perform all responsibilities with integrity to maintain public confidence. Members should be objective, independent, and free of conflicts of interest. 4. Objectivity and Independence

29. 3 - 28 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Ethical Principles 5. Due Care Members should observe the profession’s standards and strive to improve competence. A member in public practice should observe the Code of Professional Conduct. 6. Scope and Nature of Services

30. 3 - 29 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Standards of Conduct Principles Rules of conduct Substandard conduct Ideal conduct Minimum Level

31. 3 - 30 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 5 Describe factors that influence auditor independence.

32. 3 - 31 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Independence Independence means taking an unbiased viewpoint in performing audit tests. Independence in fact Independence in appearance

33. 3 - 32 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Revision of SEC Auditor Independence Requirements Ownership interests IT and other nonaudit services

34. 3 - 33 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Revision of SEC Auditor Independence Requirements Audit committee Shopping for accounting principles Approval of auditors by stockholders Engagement and payment of audit fees by management

35. 3 - 34 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 6 Apply the AICPA Code rules and interpretations on independence and explain their importance.

36. 3 - 35 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Independence Rule 101 – Independence A member in public practice shall be independent in the performance of professional services as required by standards promulgated by bodies designated by Council.

37. 3 - 36 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Financial Interests Interpretations of Rule 101 prohibit covered members from owning any direct investments in audit clients. Direct financial interest Indirect financial interest Material or immaterial

38. 3 - 37 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Related Financial Interests Issues Former practitioners Normal lending procedures Financial interest and employment of immediate and close family Joint investor or investee relationship with client Director, officer, management, or employee of a company

39. 3 - 38 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Related Financial Interests Issues A lawsuit or intent to start a lawsuit between a CPA firm and its client is a violation of Rule 101 for the current audit. The interpretations permit a CPA firm to do both bookkeeping and auditing for the same client. The SEC prohibits performing bookkeeping and auditing services by the same CPA firm.

40. 3 - 39 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Related Financial Interests Issues Internal auditing and extended audit services Unpaid fees

41. 3 - 40 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 7 Understand the requirements of other rules under the AICPA Code. Understand the requirements of other rules under the AICPA Code.

42. 3 - 41 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Rules of Conduct 101 Independence 102 Integrity and objectivity 201 General standards 202 Compliance with standards 203 Accounting principles 301 Confidential client information

43. 3 - 42 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Rules of Conduct 302 Contingent fees 501 Acts discreditable 502 Advertising and other forms of solicitation 503 Commissions and referral fees 505 Form of organization and name

44. 3 - 43 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Learning Objective 8 Describe the enforcement mechanisms for the rules of conduct.

45. 3 - 44 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley Enforcement Action by AICPA Professional Ethics Division Action by a State Board of Accountancy

46. 3 - 45 ©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley End of Chapter 3