Importance of Independence in an audit engagement

Introduction

Independence means the freedom and ability to make your own decisions in life, without having to ask other people for permission, help or money. In other words, independence in an audit perspective means being straightforward in fact, mind and appearance with no risks of being biased whatsoever.  Therefore, a person conducting an audit, ought to be independent so that the recommendations given and the audit opinion issued give greater assurance to the users of financial statements to make informed decisions.

Independence is essential and underlies the core values of auditing. It is therefore important for an auditor to be independent because it is part of the professional code of ethics and a requirement by the International Ethics Standards Board for Accountants (IESBA) & International Federation of Accountants (IFAC).

Who is an independent auditor?

According to ISA 200: The overall objective of the independent auditor and the conduct of an audit in accordance with International Standards on Auditing, Section 15, the concept of independence refers both to the state of mind of the auditor and independence in appearance. The independence of the auditor from the entity whose financial statements are subject to audit safeguards the auditor’s ability to form an audit opinion without being affected by influences that might compromise that opinion

Independence of mind is the state of mind that permits the expression of a conclusion without being affected by influences that compromise professional judgment, thereby allowing an individual to act with integrity and exercise objectivity and professional skepticism.

Independence in appearance involves avoidance of facts and circumstances that are so significant that a reasonable and informed third party would be likely to conclude, weighing all the specific facts and circumstances, that a firm’s, or a member of the audit team’s, integrity, objectivity or professional skepticism has been compromised.

Independent auditors examine the financial records of entities with which they are not affiliated by approaching the audit process objectively and performing the tasks with integrity. This, therefore, implies that they have no financial interest in the business being audited. They are also not linked to any parties who may have an interest in or might be harmed by the results of an audit or its publication.    

Independent auditors are often used to avoid conflicts of interest and to protect shareholders and potential investors in public companies. Company shareholders require an unbiased opinion and an independent auditor is essential in determining the accuracy of the company’s annual accounts as a fair reflection of its financial position and financial performance.

Ethical Requirements Relating to an Audit of Financial Statements

ISA 200, Overall Objectives of the Independent Auditor clearly states the ethical requirements relating to an audit of financial statements which are important for an auditor to apply while conducting audit assignments. These include;

Professional skepticism: It is highly recommended for an auditor to be able to plan and perform an audit engagement with a questioning mind and be able to recognize and analyze circumstances that may exist and cause the financial statements to be materially misstated.

 Sufficient appropriate audit evidence. In order to obtain reasonable assurance, the auditor shall obtain sufficient appropriate audit evidence to be able to draw reasonable conclusions on which to base the audit opinion. Reasonable assurance is obtained when the auditor has thereby reduced audit risk to an acceptably low level.

Professional Judgment: This requires an independent auditor to apply his/her knowledge, training and experience and make a conclusion over the matter at hand. Professional judgement helps to reduce audit inefficiency since a conclusion is made there and then depending on the situation at hand.

The audit profession has recognized the following threats to auditor’s independence, as highlighted below.

Self-interest threat: This arises when an auditor has a beneficial interest in a client firm. The auditor is likely not to report any matter that will adversely affect his or her interest and therefore may not be objective when carrying out the audit. The auditor also depends on the management of the company to secure its re-appointment as an auditor.

Familiarity threat: An auditor may have a close relationship with the clients’ staff after auditing the client for many years. Such a close relationship makes the auditor sympathetic to friends or close relatives. The auditor may also trust them to the extent that they cannot make mistakes. This reduces the auditors’ professional skepticism and errors and fraud in the financial statements may remain undetected. It may also occur in a circumstance where the relationship between the auditor and client is long-standing or otherwise is so familiar that the auditor becomes involved in advising the client or acting in a management role.

Self-review threat: Where an auditor reviews work, he/she had previously done, he/she may not point out any weaknesses in such work for fear of being penalized or losing reputation. Therefore, a judgment is required of the auditor which demands that the previous work of the person be challenged or re-evaluated.

Advocacy threat: When an auditor is asked to pursue other interests of the client in a dispute or in court, he/she may be biased in favor of the client and may not be objective when handling the matter. In addition, the client may be asked to promote the client’s shares on the stock market, Comment publicly on the client’s future events. These also cause a threat to the audit person.

The intimidation threat: The auditor is intimidated by actual or potential pressures from the client or other party to have favourable reports issued. Threats to the auditor may include non-re-appointment, taking court action or threatening physical harm e.g., blackmail to the auditor. Such threats increase pressure on the auditor and reduce objectivity in reporting on clients.

Independence is an essential attribute for audits because it determines how credible and reliable financial statements will be to the users:

The auditor should be independent of the client company so that the audit opinion will not be influenced by any relationship between them. It provides a clear picture of a company’s worth, which helps investors make an informed decision for example when considering whether to purchase a company’s shares. Financial analysts and brokers also use independent audits to make sound investment recommendations to clients

Company managers can use the results of the audit to continually improve internal processes. The process can save money over time as the audit helps to show wastages or areas where the business is losing money. Audits can also indicate where better internal checks and controls need to be applied.