ABC

You are the audit manager in charge of the field work of the ABC Co; it is the first year you have been involved with this client, although your audit firm has carried out the audit for the last eight years.

ABC is a general manufacturing company which is listed on the stock exchange of the country it is based in. The company manufactures and distributes household products including kitchen equipment, chairs, tables, and bedroom furniture.

The audit work for the year to 30 June has been in progress for the last three weeks, and there is one week to go before it is completed. The audit team of five staff comprises two juniors, two seniors and yourself.

Ethical issues

P, one of the audit juniors, has been working exclusively on checking the existence and valuation of the inventory in the kitchen equipment division of ABC. The work is not particularly difficult, but it is quite time-consuming and means checking many items of inventory in a large warehouse. A lot of the inventory is old and dirty and P normally brings old clothes each day to wear around the warehouse. The warehouse manager recently approached P and offered a free re-fitting of Ps kitchen as a thank you for carrying out the inventory work. The warehouse manager stated this was a normal activity each year, in recognition of Ps difficult working conditions. During the audit P has identified that the inventory is over-valued, particularly in respect of many old kitchen units being maintained at full cost price, even though those units have had no sales in the last 18 months. The extent of the over- valuation appears to be material to the financial statements.

Q, an audit senior, has been working on the disclosure elements of directors remuneration for the financial statements and the directors remuneration regulations disclosure for that jurisdiction. Q has discovered that disclosure in the financial statements and remuneration regulations is different from the information provided by and checked by the audit committee. When queried, the newly appointed chair of the audit committee stated that share options were not considered part of disclosable remuneration as the value was uncertain, being based on future share price, which could not be determined. This element of remuneration was therefore omitted from the financial statements and remuneration regulations disclosure. The chair informed Q that due to the confidential nature of directors remuneration, no further disclosure of this situation was to be made. The chair also noted that recent review of shareholdings indicated that Q had a 2.5% share of the company and again this would not be disclosed due to the confidential nature of the information.

Finally, the chair noted that the facts that the chair of the remuneration committee was also a director of CBA and that the chair of the remuneration committee of CBA was also a director of ABC should not be disclosed in the financial statements; again citing confidentiality issues.

R, the second audit junior, has been auditing the bank reconciliations on ABCs 26 different bank accounts. The work is considered suitable for a junior member as it mainly entails checking that cheques issued prior to the year-end were presented to the bank for payment after the end of the year. R has completed work on the reconciliations and stated correctly that all cheques were presented to ABCs bank for payment after the end of the year. However, R failed to state that a number of cheques, material in amount, were only presented two months after the year end. In other words, the financial statements were window dressed to show a lower creditors amount than was actually the case at the year end.

When queried about this omission during final review of the audit files, R correctly stated that he was never informed that timing of presentation of cheques was part of the audit procedures.

Required:

From the information above, explain any ethical threats and recommend appropriate ethical safeguards explaining why that safeguard is appropriate. (20 marks)