A Definition of Audit Independence

A Definition of Audit ceasedomIndependence is fundamentally an lieu of mind for exercise of victor smellinging and defined as an defraud ideal that is easily subject to misinterpretation. Quality of unspoilteousness, objectivity, h hotshotsty, and impartiality atomic number 18 include in the sup specify to characterize emancipation. Independence is a resembling a base element to the reli expertness of scrutinizeors deals. However, it does non mean that an analyzeor must be free of all economic, fiscal, and other relationships to comply with independency. Two aspects ar coerIndependence of mind.It is essential state of mind to en equal to(p) an inspector to stool his opinion or conclusion ground on skipper judgment with disclose beingness affected by compromising influences.Independence in show.It refers to a perception of a third ships comp each regarding the take stockors freedom. Circumstances and relationships which be unharmonious with license w ould baksheesh third party and users of financial statement to throw away conclusion that at that place is unacceptably high encounters of scrutinizeors license has been mared.An canvasor should concords independency of mind just now overly portrays to others he is in strung-out in an scrutinise engagement. For this to be achieved, he or she should avert those threats to license in launch to gain perception as truly main(a) from third party and users of financial statements in order to them confident that the scrutinizeors reports are credible.Definition of Auditors IndependenceThe concept of listeners license is an disc everyplace that has been debated from many perspectives since the birth of the profession.Salehi1 stated that the inspectors independency has been defined by International Auditing Practices Committee of the International Federation of Accountants as The hearer should be straight forward, honest and sincere in his apostrophize to his master copy work. He must be sporty and must non allow prejudice or bias to override his objectivity. He should maintain an impartial attitude and some(prenominal) be and appear to be free of any affair which susceptibility be regarded, whatever its actual effect, as being incompatible with integrity and objectivity.How has the come of scrutinise independence evolved?During nineteenth century, the initial concept of canvas independence arose fundamentally in British that the aboriginal state of captain accountants and studyed accountors was to take charge and safeguard investments in existing and former colonies of the British Empire by those absentee owners and they could try professional run to different investor groups. Auditors were strictly forbid from making investment and involving in the affair that they scrutinizeed. The visit independence during this era was at weak train as the scope of professional help could be broad and scrutinizeors were allowed to coif fe book saveing and financial statements preparation for the entities they audited. there was an economic shift from seat of government coming primarily from foreign sources to capital deriving primarily from house servant sources that led to a change in concept of audit independence during the late 19th and early 20th century. This shift related to the result of erect American breadbaskets and also a change in the intellect of nature and purpose of Business Corporation. During this time, invoice and auditing was essential to paygrade of the trademarked interest of the corporation. There was a collect to initiate periodic equalizer sheets to effectively distribute the retained profit to trademarked interest. By this, auditors primary responsibility shift from serving absentee ownership interest to collective proprietary interest instead. Normally, large banks or wealthy investors acted as domestic share go oners to ensnare collective proprietary interest. However, it ten ds to be more than general customary mired in stock ownership.The concept of audit independence was facing other alteration during the New Deal era when Securities Exchange Commissions (SEC) being discover rised. Standards for reportage and auditing perk up been established by SEC to place effects on audit independence. As a result, primary duty of accountants and auditor shifted to professional banals for preparation and audit of financial statements. During this stage, objectivity and torpidity were essential concept for accountants and auditors in reportage on financial position and operation performance, or else than loyalty to a particular party.Until 1970s, the concept of audit independence has been eroded. macrocosm accounting quicks tend to modify objective and neutral focus and advocating lymph glands regarding accounting and auditing matters (non-audit attends) at the time FASB established to be the strong-minded accounting authority. With a rapidly growing business environment, large public accounting pie-eyed capable to translate wide range of business service to their guests and the grosss derived which outpaced the handed-down auditing services fees. Increasing hawkish marketplace for auditing services accompanied by complexity of international business practices led both(prenominal) auditors shifted from objective and neutral focus to preferable in becoming trusted advisor of invitee even though independence leave had been stressed by ASB of AIcertified public accountant during that period.In the mid- 1980s, internal audit activities were regarded as an opportunity area to be spread out by CPA unassailables for new and existing clients. However, most plastereds encountered obstacles in reading outsourcing services to its clients which were withstandance from internal audit departments and concern over independence of audit committee. External auditor rendering consulting services whitethorn call forth audit fibre b ecause he or she would be provided with considerable knowledge, trading operations and industry of the audit client. Anandarajan et al.2 stated that The greater the external auditors insight into the client, the demote their baron to understand business transactions and break key audit risks. External auditor has a chance to identify and evaluate the clients business studys since they involved in the day-to-day basis operations of client eyepatch they were performing consulting services. This would take advantage for subsequent quality of the audit.C. Richard3 mentioned several(prenominal) shipway to call forth auditor independence prior to Sarbanes- Oxley ProposalsLegal prohibition of financial interests in client companies.It has been the essential universal auditor independence principle that followed by both the SEC and public accounting profession. Elaboration of the rules and coverage structures fork up been formulated for professional employees of accounting pie-e yeds including their direct family members to disclose any type of financial interests.Rotation of audit ap sharpenmentsSarbanes-Oxley required that individual auditors bypass off a client on periodic basis to sink the threats to independence to find oneself. However, it has been objected by auditors by claiming on loss of high start-up bell associated with the initial days of audit if rotation of auditors was being enforced.Peer followThis means reviewing the work of an audit firm by a nonher auditor. It was piecemeal move common in many countries.An independent auditor-appointing and fee-setting corpse.This would help to enhance auditors independence judgment and action by reduce the ability of client counsel in determining the scope of audit and remuneration of auditors.In year 2002, the business trials of several large firms in United States such as Enron, WorldCom and the like led to significant accounting scandals that shock the market. Subsequently, several offici als disclosed to the public that they had intentionally misled investors and this had trigger to question the role and integrity and doubt on independence of these companies auditors. The far-reaching legislation resulted from these accounting scandals was the Sarbanes-Oxley achievement (SOX) and this SOX also created Public Accounting Oversight Board (PCAOB), a professional body for the purpose of establish standards (auditing, ethical and independence standards) to police the auditors behavior. Strengthened independence rules and placing audit committee to supervise the auditors engagement are covered in the further consequences. The enforcement of SOX had transformed merged governance in United States and had a profound influence abroad.Auditors independence was also an important concern in SOX. Section 201 list out those prohibit services to be provided by registered auditor to its clients. The list comprised of non-audit services including bookkeeping, financial breeding sy stems design and implementation, and valuation services. It is argued that auditor independence was being negatively affected by non-audit fees, support by Enron and other scandal-ridden companies flake. However, it is not guaranteed that prohibition of certain non-audit services allow effectively annex auditors independence. Another important event was the independence standards previously establish by the AICPA and SEC through the Independence Standards Board has been recognised by PCAOB. It is under suspicious that whether these rules under SOX enforced were sufficient to befitting publics perception on auditors independence.After the enforcement of SOX rules, it is undeniable to receive a tight-laced reconsideration of the concept of auditor independence. A new concept of auditors independence might arose which in favor of reasserting former objective and neutral concept to accounting profession rather than provide non-audit services to clients. Emergence of current acc ounting and auditing scandals could be viewed as a arduous evidence to climb that independent auditors are not appropriate in providing non-audit services to its clients. just when, this issue was not addressed in SOX or PCAOB independent standards.Another issue regarding audit independence was that client deal outment may still hold the ability to influence scope of audit engagement and audit fees. til now though Section 301 of SOX has clearly specified that audit committee outright responsible for the appointment, compensation, and oversight of independent auditors, but there was no particularised enforcement mechanism guaranteed that client management go away not involved whether instantly or indirectly in selection of auditors, determination of scope of audit and audit fees.In order for this new concept of auditors independence to be effective, two propositions are motivatinged to be in bodieddIndependent auditors should not subject to provide non-audit services to cl ient.Management should be strongly veto by legislation in determining the scope of audit and audit fees to avoid unclear influences that management might exert to auditors.C. Richard3 stated without a transition to this concept, auditor independence standards will most credibly be primarily cosmetic and will not provide sufficient pledge that auditors are in fact independent from client management. If this happened, may lead auditors independence appears to be unnecessary and auditing will no persistenter be trusted by third party and other users of financial statements since it ineffectual to meet public perception on assurance.To create a shoot for audit services, auditors must convince the market of their independence and also their competence. It has long been recognized that a news report for independence is an auditors greatest professional summation and that any negligence on an auditors part will leave them go around to severe penalties in the form of, inter alia, a loss of news report (Owens 1941, Ashley 1942, Johnstone et al. 2001).Reputation serves as a collateral bond for independence, in that the reputation of an auditor found to be less independent than searched will be damaged and the present value of his or her audit services will be reduced (Watts and Zimmerman 1986).Reputation and independence of auditor is untold important nowadays if compared to previous year receivable to many corporation scandals that happens before. There is hard to clarify and determine the auditor independence. There are 2 types of auditor independence which is independence in fact and independence in appearance. Independence in fact exists when the auditor is actually able to maintain an unbiased attitude throughout the audit, whereas independence in appearance is the result of others interpretations of this independence.The issues that happens currently in Asia demesne about audit independence issues are public feels that the translation of independence is unclear, expectation quip leads to line of audit independence, offering non audit service will reduce audit independent, the more longer audit promote, the more audit can resist management pressure,Definition independence is unclearThe current issue happen in Asia country about auditor independence is public feel that the meaning, the definition of independence is ambiguity. Public do not know how to identify the independence of especially the new client. This auditor independence has been subject to diligent debate in recent years payable to major corporate collapses and perceived audit failures, such as Cendant, Enron, Global Crossing, WorldCom and Xerox in the United States. Which audit firm should public trusted since Big 5 previously Arthur Anderson also having the problem of audit independence?Expectations Gapformer(a) than that, there is a research the auditor independence concept in Taiwan be influence by audit expectations gap literature. The expectations gap ind icates differences in views on the nature and role of auditing between client and auditors. There is a different interpretation makes independence concept issues has arise. Financial users expect too much for auditors work, pubic will think that auditors independence has impair due to expectation gap. To solve this problem, to rebuild the trust of public on the issues of audit independence, a number of local and international independence pronouncements and ordinations throw been decreed and reissued.Non Audit Services (NAS)There is a research shows that there is a significant negative relation between non audit services and the extent of client find outment with the auditor over financial reporting issues. Produce non-audit services to client will reduce audit independence.The ability of the auditors to resist client management pressure in auditor-client negotiation over financial reporting issues is important to investigate because it concerns over the issues audit quality and the effectiveness of auditors and will reduce management discretion if auditor do not have ability to resist client management pressure.The ability of the auditor to resist client management pressure in negotiations over financial reporting issues is likely to be weaker when the extent of NAS provided to a client increases. But the ability of the auditor to resist client management pressures in negotiations over financial reporting issues is likely to be increasing as auditor tenure increases.When requiring auditing in NAS, clients are less likely to agree with a Big 5 auditor, but are more likely to agree with auditors perceived by industry specialists. Because of specialist has more greater knowledge of the clients industry, specialists should have greater ability to resist client management pressure about financial reporting issues Auditor independence may be impaired when auditors pursue economic self-gain, instead of serving the public interest during auditor-client negotiation .Audit feesThe current study uses the extent of non-audit services (NAS) thrifty as a percentage of non-audit fees over total fees received from the client, because non-audit fees are increasing and are often significantly higher than audit fees and this has become the major source of revenue for most large audit firms. This rail line implies that the auditors independence may be impaired when the auditor and client transact issues over financial statement reporting, and thus reduce the relative originator of the auditor to resist client management pressure because of the auditors dependence on NAS services fees received from the client.The business community countered that annual audit fees would be increased substantially as a result of the minimum audit fee schedule especially for the small companies. They also charged that a minimum fee structure to the client which it would disagree with the principle of price based on free competition. Therefore, well-nigh large or more e fficient firms which would not allowed charging less compared with other small audit firm. scratch of Ethics for Professional Accountants and the EFAA (1998) suggest that client coat which is measured from coat of fees could raise doubts as to independence, but do not state what constitutes an unsatisfactory dimension of total fees. However, the EFAA clearly states that, the total fee from one client should not exceed a certain percentage of the total overturn of the audit firm. In Malaysia, Noordin (1990) expresses his concern that a code of ethics should provide guidance to limit over-dependence on one client for revenue. The ICAEW has ruled that the size of it of audit fees of a major client should not exceed 15 per cent of total fees to avoid impairment of auditor independence. This 15 per cent criterion has also been the level generally used in Australia at which auditors have to consider their independent position and there is even a suggestion that the 15 per cent is to o low. The Cohen Commission (AICPA, 1978) directed wariness to the grandeur of size of audit fees as one of the crucial independence-related issues.Burton and Fairfield (1982) point out that there may be a close gene linkage between management assurance service and size of audit fees. As the provision of management assurance service increases, the auditor is likely to be more dependent on the client due to the size of the fees generated. It also seems plausible that smaller audit firms will be more dependent on the client if the size of audit fees generated is a significant proportion of its overall revenue.Size of audit firm and the level of competition in the audit services marketFurther, in a highly competitive environment, the auditor is also perceived to be less independent due to the increased likelihood of losing a client and the revenue the client generates. Thus, the ominous effects of MAS, the size of the audit firm and competition on a third partys problem of auditor independence actually arise because of the linkage of these variables to audit fees.Basically, a positive relationship means that the larger the audit firm size, the greater the auditors independence. They prove that large firms are more unsusceptible to client pressures, thus maintaining higher audit independence. In fact, it has been argued that large firms, due to their very size, may be more able and motivated to provide better audits. However, as pointed out by Goldman and Barlev (1974), one should not terminate that large CPA firms are immune to pressures from their clients. Competition among the offices of some large firms for clients may be as great as the competition among small, independent CPA firms. More to the point, the few court cases which contend the assumption that CPA firms acted independently indicate that the use of a large CPA firm is no guarantee of its ability to resist pressures from clients, as happened with Arthur Andersen and Enron.Tenure of an audit f irmAn audit firms tenure, which is the length of time it has been filling the audit ask of a given client, has been mentioned as having an influence on the risk of losing an auditors independence. most writers, who discuss the relationship between tenure and audit independence, support this view. A long association between a corporation and an accounting firm may lead to such close identification of the accounting firm with the interests of its clients management that truly independent action by the accounting firm becomes difficult. Some critics invoke the vested interest argument to support the assertion that auditors might compromise their independence to gain continuing audit engagements, the prospect of airlift audit fees if the client firm expands, and opportunities of providing non-audit services later. Example, Enron and Arthur Anderson has associate for 15 years and does not change any other audit firm.In my opinion, the definition of auditors independence is very subject ive until today. This is no absolute answer to shrive the issue. However, we, as a human able to do are to quicken and improve the standard and regulation to solve the current issue. The standard and regulation are created by us and as a human is irregular at everything. Sometimes we created the thing and did not consider the further weaknesses. We need to keep improve and rectify it while we face the cases and issues. A country used few hundred years to create and revise a better constitution. In addition, the auditing standard only used few decades to create the act and policy. We need more time to revise it to be a better regulation. Besides, the scandal or cases happened like Enron would scandalize the accounting and corporate level, but it also leave an opportunity to the standard shape up to revise and restrict the standard. Like the common law of the U.K., that is a lot of cases pot the law could guide the person to make a justice or correct judgment. The cases like Enro n could be guidance for accounting and auditing standard get on like Sarbanes-Oxley Act and Audit Oversight Board. Sarbanes Oxley Act was started to more evince the auditors independence and the occurrence of Audit Oversight Board was established to oversee the performance of audit team and audit committee. However, sometimes the constitution and standard board are intentionally to show themselves have perform their responsibility and task instead of truly rectify the problem. The standard is like a pendulum. The best of the standard is the middle of pendulum. Sometimes a case happened and the pendulum is out of the middle, may be moved a bit to the left side. But the pendulum was shaken by the constitution and standard board compel to stir up it to the right side instead of push it back to the middle. Their action was more to prove themselves have performed their responsibility to get the confident from the audience. If a case happened again, they would push it to the left side. Besides, the person of the constitution and standard board is being paid the high salary by government or sponsor. They need to perform something to prove their responsibility to continue to hold his or her position inside the organization and get the pay rather than rectifies the issue. As an example, the Sarbanes-Oxley Act had restricted the audit firms need to rotate the clients every certain period. It could increase the cost for auditors to start-up the new clients (Baker, 2005). Furthermore, the ICAEW has ruled that the size of audit fees of a major client should not exceed 15 per cent of total fees to avoid impairment of auditor independence (Noordin, 1990). This enforcement is to reduce the risk of auditors independence issue but it would restrict the revenue of the audit firms. Although audit firms are providing the professional services, it is still a profit-oriented firm. The middle of pendulum is the standard could maintain auditors independence and audit firms profit, but the revision of standard is already pushed the pendulum from left side to the right side or vice versa.Besides, the expectation gap between independence of auditors with financial report users is still occurring until today. This issue is unavoidable because the perception of audit incentive between auditors with financial report users is different. The perception from shareholders is they expect the auditors could give an assurance to the financial statements which is issued by the management. The perception from auditors is they provide the audit service to the client and the management would pay the audit fees. The audit fees are one of the issue could influence the auditors independence. This occur the conflict of interest between the auditors, shareholders and management. Although the auditor is independent, the financial reports users are continuously call back the unqualified audit report and invest to the partnership. However, the unqualified audit report is not absol utely eliminated the risk and fraud of the company, especially the inherent risk likes going concern issue. The auditors are difficult to justify the going concern issue in the audit report because the auditors are difficult to know the internal information from management. The auditors only can provide the reasonable assurance to the clients financial statements. This is mean the auditors does not guarantee or confirm the financial statements are true and fair view and they only can provide the audit opinion based on the information from management assertion. Although this kind of clarification is stated in audit report, it is still a lot of financial report users believe the auditors could eliminate the fraud. If the company is collapsed, the shareholders would directly think that is the auditors fault and they are not independent. Furthermore, the accounting scandal like Enron already worsened the confidence of financial report users toward the auditor independence and audit repo rt. The expectation gap to auditor independence become larger because the failure of Arthur Anderson.The audit fees are the biggest challenge to the auditors independence. In the degree of professional ethic, the auditors should provide the professional audit service as primarily objective of the firms rather than profit orientation. The professional deportment included independence, honest, competent and others. However, it is difficult for auditors to follow this behaviour because the nature of business. The audit firms could not survive without the profit. With the fierce competition in auditing, the auditors would intend to bring to pass the client request to avoid losing a client and getting a better audit fees. The non-audit service and management audit service are one of the solutions to get a higher audit fees. These kinds of extra services could maintain the client relationship with the audit firms. Unfortunately, the accounting scandals and the restriction for audit inde pendence decrease the profitability of audit firms. The competition becomes fiercer and the independence of auditors is dampened. Besides, the size and tenure of the audit firms could affect the auditors independence. The larger firms could have the larger tenure and resistance to the management influence to the auditors independence (Goldman and Barlev, 1974). Like Big 4, they always serve the bigger clients than the smaller audit firms, they seem like have more authority to negotiate the audit engagement with the clients. The losses of some clients would not strongly affect the total revenue of the audit firms, but for the smaller audit firms are vice versa. The proportion of total fees to the revenue would strongly influence the audit independence (EFAA, 1998). The smaller audit firms have the greater proportion of total fees to the revenue, but it is still have some exemption cases like Enron and WorldCom. Therefore, according to the restriction for auditors independence from S arbanes-Oxley Act, PCAOB and ICAEW, the smaller audit firms have the greater possibility to influence by the client in term of audit independence.According to the statements above, it have many issues could affect and weaken the audit independence. However, the audit independence would not influence the demand of the auditing. The auditors independence only strengthens the reputation of the audit firms and has a competitive advantage in the audit market. The financial report users would not invest to a company that is not audited by the auditors. The agency theory could prove that the demand of audit is still necessary to the shareholders. The shareholders invest to a company and hire the employees to manage the operation and prepare the financial statements. The management would hire the auditors to issue an audit report to verify the financial statements. The information asymmetry and conflict of interest could happen between the shareholders and management. The shareholders inves t a company is to get the come about of their investment, but for the management is to get the higher salary. These kinds of incentives are the main issue to the conflict of interest and information asymmetry. Therefore, the audit is necessary to reduce the information asymmetry and conflict of interest between them. Furthermore, some of the countries do not state the mandatory regulation that the companies financial statements must be audited and issued an audit report by the auditors. The shareholders mostly would request the management to hire the auditors to audit the financial statement and issue an audit report because they know the importance of auditing for their company.Moreover, the audit independence is strongly depending to the both auditors personality and management behaviour. The professional ethic and monetary incentive are the intersection between auditors and management. whiz of the weaknesses is the standards like Sarbanes-Oxley Act only emphasize the restricti on of auditors independence and it does not emphasize the management interruption and influence to the auditors. Although an auditor has a strong independence but it could influenced by the management in term of monetary benefit to the auditor and his firm. Therefore, the current auditing standards should revise and more specify the both regulation of auditors and management to restrict the audit engagement.It seem like the auditing standards have a lot of the flaw in the current regulation, but it is the chemical formula phenomena because the standard is imperfect same like the human. This is the reason for us to keep improve and revise the standard to become better and better. Besides, the standard is necessary in auditing because it is the guidance to the auditors to perform their competent task and provide the independent audit opinion. Although the standard is impossible to absolutely eliminate the fraud and the failure of audit independence, it could minimize the possibility and the frequency to happen the issues or cases like Enron and WorldCom. Hopefully the further exploration and rectification by standard board could improve the auditing standard and recover the confidence to the audit independence from the public.