Question

Audit Fee and Independence Case Study Auditors

Penny & Pound is a second tier auditing firm with offices around the country. They have listed clients in their portfolio and recently started to expand their service offering into many other areas of client activities. These services are complimentary and meet the needs of current and future clients. They are:

• Corporate Governance in all its aspects

• IT related consulting

• HR consulting and placement services.

These new activities are contained in a network firm. The partners of P&P decided that they would offer reduced audit fees to achieve the following:

• Generate additional work for the new activities

• Close a work load gap that existed during the period April 2014 to June 2014, resulting from the recent loss of a client.

The firm normally ensures to obtain a recovery rate of 80%, but now has made a conscious decision to reduce this rate to 65% for a period of time. The financial effects have been checked out and the firm believes it will obtain additional work because of the lower recovery. A time frame of about year has been agreed upon. Shortly thereafter, P&P is approached to make a bid for the audit of Fairplay Limited, quoted on the Johannesburg Stock Exchange. Fairplay made it clear that they are unhappy with the incumbent auditors, as their fees are perceived to be too high. The fees for the last audit in 2013 amounted to R1.2 million.

P&P prepares an assessment of the engagement, taking into account the factors listed above and arrives at a similar fee of R1.3 million, but also identifying opportunities where a reduced fee would be appropriate. In line with their recently adopted approach to determining fees they agree that they will offer to do the audit for R845 000, a 65% budgeted recovery rate. They anticipate that they can obtain an IT contract from this new client, which will easily make up for lost earnings.

Required:

1. Is such action in compliance with the Code of Ethics?

2. What threats are identified that could lead P&P not being able to maintain its independence?

Answer 1

1. No. Such action is not in compliance with the code of ethics.When charging fees they should ensure that their Quality & Objectivity is not degraded by the hope of any Financial Gains & that such fees aligns with the responsibilities they are suppose to take.Also, charging of any sort of contingent fees for audit engagement is also prohibited. Auditors should be careful to ensure that there is no threat that audit quality will be adversely affected because the fee charged is insufficient to allow the necessary amount of time and skill to be spent for that particular engagement.

2. There are threats that could lead P& P not being able to maintain its independence like threat of self interest (financial interest in client that would be affected by services performed like in this case IT Contract) & threat of undue influence (client in this case can be in the position to make undue influence on the auditors).