Assoc.Prof. Azmi Ariffin MBA, C.

A(M), AIIA

2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

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Chapter 1

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Learning objective
Fundamental principles of ethics and professional

conduct in accordance to MIA By law Importance of professional ethics Concepts of independence and its importance situation that can influence independence in appearance and in fact concept of Advertising and other methods to attract customer amount of fees that can be charged

2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

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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.

2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

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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.

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Illustrative Prescribed Ethical Principles

Trustworthiness Respect

Responsibility

Fairness

Caring

Citizenship

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Why People Act Unethically

The persons ethical standards are different from those of society as a whole.

The person chooses to act selfishly.

In many instances, both reasons exist.

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2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

Learning Objective 2
Resolve ethical dilemmas using
an ethical framework.

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Ethical Dilemmas
An ethical dilemma is a situation a person faces in which a decision must be made about appropriate behavior.

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Rationalizing Unethical Behavior

Everybody does it.

If its legal, its ethical.

Likelihood of discovery and consequences

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Resolving Ethical Dilemmas

1. Obtain the relevant facts.

2. Identify the ethical issues from the facts.

3. Determine who is affected.

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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.

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Relevant Facts
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.
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2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

Ethical Issue
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?

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Learning Objective 3
Explain the importance of ethical
conduct for the accounting profession.

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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.

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CPAs Encouraged to Conduct Themselves at a High Level

CPA examination GAAS and interpretations

Conduct of CPA firm personnel

Continuing education requirements

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CPAs Encouraged to Conduct Themselves at a High Level

Quality control Peer review

Conduct of CPA firm personnel

Legal liability
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CPAs Encouraged to Conduct Themselves at a High Level

PCAOB and SEC Division of CPA firms

Conduct of CPA firm personnel

Code of Professional Conduct

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Ethical Principles
1. Responsibilities: Professionals should exercise sensitive and moral judgments in all their activities. 2. The public interest: Members should accept the obligation to act in a way that will serve and honor the public.

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Ethical Principles
3. Integrity: Members should perform all responsibilities with integrity to maintain public confidence. 4. Objectivity and independence: Members should be objective, independent, and free of conflicts of interest.

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Ethical Principles
5. Due care: Members should observe the professions standards and strive to improve competence. 6. Scope and nature of services: A member in public practice should observe the Code of Professional Conduct.

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Learning Objective 5
Understand Sarbanes-Oxley Act
and other SEC independence requirements and other factors that influence auditor independence.

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Independence
The value of auditing depends heavily on the publics perception of the independence of auditors. Independence in fact Independence in appearance

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Sarbanes-Oxley Act and SEC Provisions Addressing Auditor Independence

The SEC adopted rules strengthening auditor independence in January 2003 Consistent with the requirements of the Sarbanes-Oxley Act. The Sarbanes-Oxley Act and the revised SEC rules further restrict, but do not completely eliminate the type of nonaudit services that can be provided to the public.
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Sarbanes-Oxley Act and SEC Provisions Addressing Auditor Independence

Prohibited Services
1. Bookkeeping and other accounting services 2. Financial information systems design and implementation 3. Appraisal or valuation services 4. Actuarial services 5. Internal audit outsourcing 6. Management of human resource functions 7. Broker or dealer or investment adviser or investment banker services 8. Legal and expert services unrelated to the audit 9. Any other service that the PCAOB determines by regulation is impermissible
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Audit Committees

An audit committee is a selected number of members of a companys board of directors whose responsibilities include helping auditors remain independent of management.
Most audit committees are made up of three to five or sometimes as many as seven directors who are not a part of company management

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Audit Committees
The Sarbanes-Oxley Act requires that all members of the audit committee be independent.

Companies must disclose whether or not the audit committee includes at least one financial expert.

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Conflicts Arising from Employment Relationships

The SEC has added a one year cooling off period before a member of the audit engagement team can work for the client in certain key management positions.

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Partner Rotation
The Sarbanes-Oxley Act requires that the lead and concurring audit partner rotate off the audit engagement after a period of five years.

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Ownership Interests
SEC rules adopted in 2000 on financial relationships narrow the restrictions on ownership in clients to those persons who can influence the audit.

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Learning Objective 6
Apply the AICPA Code rules and
interpretations on independence and explain their importance.

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Rules of Conduct
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.

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Financial Interests
Interpretations of Rule 101 prohibit covered members from owning any direct investments in audit clients. Covered members

Direct versus indirect financial interest

Material or immaterial
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Related Financial Interests Issues

Former practitioners Normal lending procedures Financial interests and employment of immediate and close family Joint investor or investee relationship with client Director, officer, management, or employee of a company

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Litigation Between CPA Firm and Client

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.

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Bookkeeping and Other Services

The AICPA Code permits a CPA firm to do both bookkeeping and auditing for the same client.

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Bookkeeping and Other Services

1. Client must accept full responsibility for the financial statements. 2. The CPA must not assume the role of employee or of management. 3. The audit must conform to GASS.

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Bookkeeping and Other Services

The SEC does not allow audit firms to provide bookkeeping services to public company audit clients. Consulting and other nonaudit services Unpaid fees

2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

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Learning Objective 7
Understand the requirements of
other rules under the AICPA Code.

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Other Rules of Conduct

102 Integrity and objectivity 201 General standards 202 Compliance with standards 203 Accounting principles 301 Confidential client information

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Other 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

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Learning Objective 8
Describe the enforcement
mechanisms for the rules of conduct.

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Enforcement
Action by AICPA Professional Ethics Division

Action by a state Board of Accountancy

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Tutorial: Writing: using your own words to describe the rule of conduct as
on pg129 (101-505), all in table 5.1.

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