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LECTURE 4: OBTAINING AND ACCEPTING PROFESSIONAL APPOINTMENTS

1. Tendering an engagement
How assurance firms obtain clients is an important practical question, but it is largely
outside the scope of this syllabus. In brief, you should be aware that: (i) Accountants are
permitted to advertise for clients within certain professional guidelines; and (ii)
Accountants are often invited to tender for engagements which means that they offer a
quote for services, outlining the benefits of their firm and personnel, usually in
competition with other firms which are tendering at the same time. The assurance firms
obtain clients by tendering for the engagement. The important issue need to be
considered is the level of fee that they are likely to charge.
Although the price of the proposed engagement can be very important, it is not the
only consideration for the company in a tender process. Other important considerations
are:
- The quality of the service the prospective auditors are likely to provide
- The knowledge of the business they possess
- The experience of the industry they have
- The proposed personnel of the audit team
- References obtained about the audit firm
An issue to consider briefly in the context of tendering is lowballing. The IESBA’s
Code of ethics states that a firm may quote any fees it considers acceptable. In other
words, the practice of lowballing is not unethical in itself. However, ethical
safeguards should be considered as lowballing does increase the self-interest threat
of not being able to complete the audit to the appropriate standards in a commercial
way.
The Code of ethics suggest that the basis for fee computation should be disclosure
and discussed with client as soon as possible, so this would probably be incorporated
into tendering document. It states that fees should be determined with references to:
- The seniority and experience of the person necessarily engaged on the work
- The time expended by each
- The degree of risk and responsibility which the work entail
- The nature of the client’s business, the complexity of its operation and the work
to be performed
- The priority and importance of the work to the client
- Any expenses properly incurred.

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2. Appointment ethics
➢ Before accepting nomination
The prospective auditors must carry out the following procedures:

Ensure Consider whether they could be disqualified on legal

professional or ethical grounds
qualified to act

Ensure existing Consider available time, staff and technical expertise

resources
adequate

Obtain references Make independent enquiries if directors are not

personally known

Communicate Enquire whether there are reasons/circumstances

with existing behind the change which the new auditors ought to
auditors know, also as a courtesy
Communicate with existing auditors (Ethical issues)
- The prospective auditors must communicate with existing auditors to the
audit being accepted,
- The client must be asked to give permission for communication to occur. If the
client refuses to give permission, the proposed auditors must decline nomination.
- The auditors must ensure that there is no independence or other ethical problems
likely to cause conflict with the ethical code.
- Prospective auditors should ensure that they have been appointed in a proper
and legal manner.
➢ Procedures after accepting nomination (Legal issues)
- Ensure that the existing auditors' removal or resignation has been properly
conducted in accordance with national legislation. The prospective auditors should
see a valid notice of the existing auditors' resignation, or confirm that the existing
auditors were properly removed.
- Ensure that the prospective auditors' appointment is valid. The prospective
auditors should obtain a copy of the resolution passed at the general meeting
appointing them as the company's auditors.
- Set up and submit a letter of engagement to the directors of the company. Letters
of engagement are discussed in the next section.
Once a new appointment has taken place, the new auditors should obtain all books and
papers which belong to the client from the old auditors. The former auditors should
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ensure that all such documents are transferred, unless they have a lien (a legal right to
hold on to them) over the books because of unpaid fees. They should also pass any useful
information on to the new auditors if it will be of help, without charge, unless a lot of
work is involved.
3. Factor affecting acceptance/continuance (Integrity, Competence)
Audit firms may carry out stringent checks on potential client companies and their
management. Factors to consider:
➢ Risk analysis
Management integrity: The integrity of those managing a company will be of
great importance

Low risk High risk

Good long-term prospects Poor recent or forecast performance

Well-financed Likely lack of finance

Strong internal controls Significant control deficiencies

Conservative, prudent accounting Evidence of questionable integrity,

policies doubtful accounting policies

Competent, honest management Lack of finance director

Few unusual transactions Significant related party or

unexplained transaction

➢ Ability to perform the work (auditor’s competence)

- The audit firm must have the resources to perform the work properly, as well as
any specialist knowledge or skills.
- The impact on existing engagements must be estimated, in terms of staff time and
the timing of the audit
Lastly, we should also consider whether there are benefits of performing this
engagement!
➢ Engagement economics (do we benefit or gain from accepting this job?)
The expected fees from a new client should reflect the level of risk expected. This
should align with the overall financial strategy of the audit firm. Sometimes, the audit
firm may want to gain entry into the client’s particular industry or to establish better
contacts within that industry. All these contribute to a total expected economic return
from a new client.
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3. Audit engagement letters

ISA 210 Agreeing the terms of audit engagements
Preconditions for an audit
The preconditions for an audit are the use by management of an acceptable financial
reporting framework in the preparation of the financial statements and the agreement
of management and, where appropriate, those charged with governance to the
premise on which an audit is conducted.
‘In order to establish whether the preconditions for an audit are present, the auditor
shall:
(a) Determine whether the financial reporting framework to be applied in
the preparation of the financial statements is acceptable; and
(b)Obtain agreement of management that it acknowledges and understands
its responsibility:
(i) For the preparing the financial statements in accordance with the
applicable financial reporting framework, including where relevant
their fair presentation;
(ii) For such internal control as management determines is necessary
to enable the preparation of financial statements which are free from
material misstatement, whether due to fraud or error; and
(iii) To provide the auditor with:
a. Access to all information of which management is aware
that is relevant to the preparation of the financial statements
such as records, documentation and other matters;
b. Additional information that the auditor may request from
management for the purpose of the audit; and
c. Unrestricted access to persons within the entity from whom
the auditor determines it necessary to obtain audit evidence’.
If these preconditions are not present, the auditor shall discuss the matter with
management. The auditor shall not accept the audit engagement if:
- The auditor has determined that the financial reporting framework to be applied
í not acceptable.
- Management’s agreement referred to above has not been obtained.
Audit engagement letter (Content of the letter)
ISA 210.9
‘The auditor shall agree the terms of the audit engagement with management or those
charged with governance, as appropriate.’

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Content of this letter

‘The agreed term of the audit engagement shall be recorded in an audit engagement
letter or other suitable form of written agreement and shall include:
a) The objective and scope of the audit of the financial statements;
b) The responsibilities of the auditor;
c) The responsibilities of management;
d) Identification of the applicable financial reporting framework for the
preparation of the financial statements; and
e) Reference to the expected form and content of any reports to be issued by the
auditor and a statement that there may be circumstances in which a report may
differ from its expected form and content.
f) The fact that because of the inherent limitations of an audit, together with the
inherent limitations of internal control, there is an unavoidable risk that some
material misstatements may not be detected, even though the audit is properly
planned and performed in accordance with ISAs.
g) Arrangements regarding the planning and performance of the audit, including
the composition of the audit team.
h) The basis on which fees are computed and any billing arrangements.
i) A request for management to acknowledge receipt of the audit engagement letter
and to agree to the terms of the engagement outlined therein.

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SUMMARY

How do assurance firms Usually by Issues:

obtain clients tendering for the
engagement - Fee (lowballing)
- Firm’s experience
- Firm’s reputation
- Proposed personnel
-

How do assurance firms

determine whether to Ethical Issue:
accept clients considerations
- Is the firm independent
- Communications with previous
auditors

Legal Issue:
considerations
- Have previous incumbent been
removed/resigned properly

Issue:
Risk analysis
- Will it be possible to give an
appropriate opinions
- What fee should be charged
- Consider the director’s
integrity, financial record,
internal control, types of
transactions

How do assurance firms

confirm the scope of Engagement
Issues:
engagement? letters
- Set out scope/responsibilities
- Update when necessary
- Consider the appropriateness
of changing the level of
assurance if requested
- Disclosure of terms.

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QUESTION BANK
1. MCQs
1. The terms of engagement are recorded in a written audit engagement letter
and should include:

I. The objective and scope of the audit of the financial statements

II. The responsibilities of the auditor
III. The responsibilities of management
IV. Identification of the applicable financial reporting framework for the
preparation of the financial statements
V. Reference to the expected form and content of any reports to be issued by
the auditor.

A. All of the above

B. (I) (II) and (IV) only
C. (I) (II) and (V) only
D. None

2. The content of the engagement letter should be agreed with the client before
any engagement related work commences.

A. True
B. False

3. Auditors perform client screening to define the level of risk. Which of the
following might indicate that an audit client could have lower level of risk?

A. Lots of unusual transactions

B. The existence of an internal audit department
C. Conservative, prudent accounting policies
D. Evidence of questionable integrity, doubtful accounting policies

4. Your firm has received a nomination to act as Milk’s external auditor. Tim
is director of Milk. Your firm’s client acceptance procedures have identified
a recent newspaper article, which reported details of court proceedings
relating to a fraud committed by Tim.
Which of following issues should be considered when deciding whether to accept
the appointment as external auditor of Milk.

A. Consideration of management’s integrity

B. Poor control environment.
C. Unreliable management representation
D. All these above.

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2. Scenario Question
Question 1
Tim and Brat Co (Tim & Brat) is a firm of Chartered Certified Accountants which has
seen its revenue decline steadily over the past few years. The firm is looking to increase
its revenue and client base and so has developed a new advertising strategy where it has
guaranteed that its audits will minimise disruption to companies as they will not last
longer than two weeks. In addition, Tim & Brat has offered all new audit clients a free
accounts preparation service for the first year of the engagement, as it is believed that
time spent on the audit will be reduced if the firm has produced the financial statements.
The firm is seeking to reduce audit costs and has therefore decided not to update the
engagement letters of existing clients, on the basis that these letters do not tend to change
much on a yearly basis. One of Tim & Brat’s existing clients has proposed that this
year’s audit fee should be based on a percentage of their final pre-tax profit. The partners
are excited about this option as they believe it will increase the overall audit fee.
Tim & Brat has recently obtained a new audit client, Yexmerine Co (Yexmerine), whose
year end is 31 December. Yexmerine requires their audit to be completed by the end of
February; however, this is a very busy time for Tim & Brat and so it is intended to use
more junior staff as they are available. Additionally, in order to save time and cost, Tim
& Brat have not contacted Yexmerine’s previous auditors.
Required:
a) Describe the steps that Tim & Brat should take in relation to Yexmerine:
(i) Prior to accepting the audit; and
(ii) To confirm whether the preconditions for the audit are in place.
b) State FOUR matters that should be included within an audit engagement letter.
c) Ethical Risks and steps to reduce the risks.

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