lChapter 2: The Auditing Profession

Profession is a specialized body of knowledge that provides

intellectual services to the best interest of the public and which
has gained public confidence and trust. Ethics consists of moral
principles and standards of conduct imposed by a profession on
its members. Professional ethics provides guidance to
practitioners for maintaining professional attitude and it
encourages high level of performance.
The need for professional ethics arises out of characteristics of
profession such as:
 Responsibility to serve the public
 Complex body of knowledge
 Standard of admission to profession
 The need for public confidence
2.1. Generally Accepted Auditing Standards
Standards are means of measuring the quality and performance
of auditors. In order to provide and maintain uniformly high
quality audit work there is a need to have generally accepted
auditing standards. There are ten GAAS recognized by AICPA
which are divided in to three categories.

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 1. General standard (skill, objective,& due care)
These standards speak to the capability in the field of accounting
and auditing as well as technical knowledge of specific industry
or organization under audit, character, and conscientiousness of
auditors. The auditors‘capability can be acquired through
education and experience. The auditors‘ character relates with
their objectivity in performing the audit work. In addition to
auditors‘ capability and character, auditors should be wise or
careful in the audit activities.
Under this standard, there are three GAAS as shown below.
a. The audit is to be performed by person or persons having
adequate technical training and proficiency as an auditor
(competence).
b. In all matters relating to the assignment, independence in
mental attitude is to be maintained by the auditor or auditors
(independence).
c. Due professional care is to be exercised in the performance of
the audit and the preparation of the report (careful,
conscious, or wise).
2. Field work standards (well planning, understanding the
ICS &gathering sufficient data)
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 The standards of field work are necessary of an audit plan which
would be developed after the auditor has sufficient
understanding of the client. This standard also requires an
auditor to gather sufficient evidence using various auditing
techniques to issue an opinion concerning the financial
statements. Thus, there are also three standards of GAAS under
field work standards (planning, understanding the client‘s
internal control system, and competence of the audit work).
a. The audit work should be adequately planned. The reasons for
planning the audit work are:
 To complete the audit work based on the stated time

 It helps to the auditor not to skip some works if he/she became busy
 To assign assistances, if any
b. A sufficient understanding of ICS of the client is to be obtained
in order to:

 plan the audit and determine the nature,

 timing, and The reason

 Extent of testing to be performed.
c. Sufficient and competence evidential data is to be obtained
through:
 inspection,

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 It will be answer for the
 observation, question how S&CE data is
 inquiry, obtained?
 Examination, and/or conformation to afford reasonable
bases for an opinion regarding the financial statements
under audit.

3. Reporting standards (GAAP, consistency, disclosure, and fair

opinion)
a. The audit report shall state whether or not financial statements
are prepared in accordance with GAAP.

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 b. The report shall identify those circumstances in
which such principles have not been consistently
observed in the current period in relation to the
preceding period.
c. Informative disclosures in the financial
statements are to be regarded as reasonably
adequate unless otherwise stated in the report.
d. The report shall either contain an expression of
opinion regarding the financial statements, taken
as a whole, or an assertion to the effect that an
opinion cannot be expressed. When an overall
opinion cannot be expressed the reasons
therefore should be stated. In all cases when an
auditor‘s name associated with financial
statements, the report should contain a clear-cut
identification of the charter of the auditor‘s
work, if any, and the degree of responsibility
he/she is taking. In other words, the auditor
should provide fair opinion to the concerned
party.
The standards of reporting requires that the auditor should, in
his/her report state whether the financial statements are
prepared according to GAAP, and state if these principles
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have been applied consistently. The auditor should also
describe the presence of necessary information in the financial
statements that may have material effect on the reported data.
After completing the audit, the auditor should issue an audit
opinion on the financial statements, and justify whatever the
opinion
What Are Ethics?
 Ethics can be defined broadly as a set of moral
principles or values
Honesty, integrity, Trustworthiness, Responsibility, Caring,
Respect, Fairness and Citizenship are attributes of ethical
behaviors.
 Philosophers, religious organizations, and other groups
have defined in various ways (Laws and regulations,
church doctrine, code of ethics etc):-
 ideal sets of moral principles or values, which
indicates the importance of ethics in society.

Ethics Distinguished from Laws:

 Ethical behavior goes beyond legal behavior
 The law defines the minimum standard of behavior that
society considers acceptable.
 Ethical behavior rises to a higher level.
 Ethics is not just a definition of the lowest acceptable
behavior; it is a search for the highest attainable
behavior

Need for Ethics

 Ethical behavior is needed for a society to function in an
orderly manner.
 Ethics is glue that holds a society together.

( If there is no ethics, for example if everyone lied, there will be

no effective communication, a state of chaos will be created.)

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 • Since ethics is very important for effective functioning
of the society, commonly held ethical values are
incorporated into laws.

Why People Act Unethically

 Unethical behavior- is an act which is against the moral
principles of the society
• People differ in their moral principles due to the
difference in their background

Two Reasons for Why People act unethically:

1. The person’s ethical standards are different from
those of society as a whole
- In some unethical acts those who commit feel no guilt
when they are arrested because their ethical
standards differ from those of the society as a whole
(Eg extreme cases such as drug dealers, bank
robbers).

2. The person chooses to act selfishly- (selfish behavior)

• Here, a person purposely act selfishly, he/she knows
what the appropriate behavior is, but selfishness makes
them to behave unethically.

Eg. tax evaders, people engaged in corrupted acts are

motivated by personal financial greed; acts of people who
cheat on exams are caused by laziness.
 An ethical dilemma is a situation a person faces in
which a decision must be made about appropriate
behavior.
• Auditors, accountants, and other businesspeople face
many ethical dilemmas in their business careers.
– Dealing with a client who threatens to
seek a new auditor unless an
unqualified opinion is issued presents an
ethical dilemma if an unqualified opinion
is inappropriate.
– Deciding whether to confront a supervisor
who has materially overstated departmental
revenues as a means of receiving a larger
bonus is an ethical dilemma.

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 – Continuing to be a part of the
management of a company that harasses
and mistreats employees or treats
customers dishonestly is an ethical dilemma,
especially if the person has a family to
support and the job market is tight.

Methods of Resolving Ethical Dilemmas:

. By Rationalizing Unethical Behavior
-These are attempts to resolve ethical dilemmas by
rationalizing unethical behavior, but this is not advisable
since it results in unethical conduct
1. Everybody Does it, so why not me?
2. If it’s legal, it’s ethical
3. Likelihood of discovery and consequences
Eg.
1. Everybody Does It, so why not me?
- Bad behaviors such as falsifying tax returns, cheating
on exams, or sell defective products are commonly the
result of the rationalization that everyone else is doing it
and therefore it is normal

2. If it is legal, it is ethical:

-Using the argument that all legal behavior is ethical

relies heavily on the perfection of laws.
Under this philosophy, one would have no obligation to
return a lost object unless the person could prove that it
was his or hers.

3. Likelihood of Discovery and Consequences

 This philosophy relies on evaluating the
likelihood that someone else will
discover the behavior.
 The person also assesses the severity of
the penalty (consequences) if there is a
discovery.
Eg. in deciding whether to correct an unintentional
overbilling to a customer when the customer has
already paid the full amount.

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 - If the seller believes that the customer will detect
the error and respond by not buying in the
future, the seller will inform the customer now;
otherwise, the seller will wait to see if the
customer complains .
Methods of Resolving Ethical Dilemmas
1. By Rationalizing Unethical Behavior

2. Obtain the relevant facts.

3. Identify the ethical issues from the facts.

4. Determine who is affected by the outcome of the

dilemma and how each person or group is affected.

5. Identify the alternatives available to the person who

must resolve the dilemma.

6. Identify the likely consequence of each alternative.

7. Decide the appropriate action.

Fundamental Ethical principles

Integrity; - requires members to be honest and

straightforward in all professional and business relationships.
- If they see something is amiss, they should say so and
shouldn’t try to conceal it; they shouldn’t ‘turn a blind
eye’; they shouldn’t try to be ambiguous; they should
state things plainly.
Objectivity-, members should be influenced by the facts and
the facts only.

-They must avoid bias, conflict of interest and undue

influence.

- Shall not knowingly misrepresent facts or subordinate his or her judgment

to others

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Professional competence and due care - They must keep
themselves up-to-date with legislation and recent
developments.
– They shouldn’t take on work which they are
not qualified for or for which they have no
skills.
– They must be diligent, they must be careful.
Confidentiality.- Auditors have access to information that is highly confidential and
which is price sensitive. That information must be held confidentially.
• Members should not disclose confidential information unless they have a legal or
professional duty to do so.
– An example of a legal duty to disclose information can arise if a member thinks that a
client or the person they are working for is involved in money laundering.
Professional behavior. They should comply with the law and they should avoid any actions
which discredit the profession.
– for example, when they are trying to advertise their services they shouldn’t say that
other members are bad or poor.
– They should confine themselves to promoting what they are good at; they shouldn’t
criticize other professionals.
Threats to the principles of professional ethics
– Self-interest
– Self-review
– Familiarity
– Intimidation.
– Advocacy
1. Self-interest threat: This threat includes the following:
– Financial interests –If the auditor owns share in client’s
business, the auditor may want to maximize return from the
investment and overlook adjustments which would affect the
value of their investment
– Close business relationships –If audit firm enters in to business
relationships with clients (eg. Joint venture, marketing
arrangement) this leads to self interest because the auditor would
have an interest in the successful operation of the client.

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 – Employment with an audit client-If a partner retired from an
audit partnership and immediately went to work for a client, it is
considered as if the auditor was lenient in previous audit to
secure job in the client’s business. A period of at least 2 years
should pass before an ex-partner works for client
2. Self-review-This threat arises when the auditor works for the client and
that work is subject to check by the auditor
 Provision of non-audit services-eg if the auditor prepares financial
statements and audits them
 Internal Audit Services -eg if the auditor performs internal audit
service and has to check if internal control system is working effectively
 Valuation services, Taxation services -eg if the auditor performs
valuation service and has to check if valuation is properly done,
provide taxation service and do the same (auditors will be reluctant to
criticize the work their firm has done)

3. Familiarity threat-This can arise because of:

 Friendship, family or business connections
 Having an audit client for a long period of time,
 Familiarity makes the auditor too kind/sympathetic or
too trusting of the client and loses objectivity &
professional skepticism.

4 . Intimidation threat.
 It is a threat that deter the audit team not to act
properly
 Eg. Threatened litigation (when the client sue the
audit firm) the firm is then faced with the risk of losing
the client, bad publicity
5. Advocacy threats
This includes promoting the position of client or
representing them in some way which makes the audit
firm to be seen as ‘taking side ’with the client

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  Eg. acting as an advocate on behalf of an audit client
in litigation or disputes with third parties
 Negotiating on the client's behalf for finance
 Loan of personnel from an audit firm to an audit
client
 Providing valuation services to an audit client
 Providing taxation services to an audit client

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