Welcome to Audit Acceptance! 🚀
Think of this chapter as the "courtship and contract" phase of an audit. Before an auditor jumps into the numbers, they need to decide: "How do we obtain new work?", "Do we actually want to accept this client?", and "Should we continue working with existing clients next year?"
Just like you wouldn't sign a contract for a new phone without reading the terms, an auditor shouldn't start work without making sure the foundations are solid. This chapter is part of your Planning and Risk Assessment studies because getting this stage wrong can lead to huge legal, professional, and ethical penalties.
1. Obtaining Audit Engagements
How does an audit firm actually win new business? An auditor usually obtains new audit engagements through two main avenues: client invitation to tender or professional advertising and marketing.
A. The Tendering Process
When a company wants to appoint a new auditor, it often puts the audit out to tender (an invitation for firms to pitch competitive bids). The audit firm submits a detailed proposal document and makes a presentation to the audit committee or board.
The proposal typically covers:
• The firm's understanding of the entity's business and industry.
• The proposed audit approach, timeline, and use of technology.
• The composition, seniority, and specialist skills of the proposed audit team.
• The basis of the proposed audit fee.
B. Ethical Rules on Fees and Marketing
Under ACCA's Code of Ethics and Conduct, obtaining engagements must be handled with strict professional care:
• Fees: Audit fees should reflect the time, skill, and resources required. A firm must never set fees unrealistically low ("lowballing") just to win a client if doing so compromises audit quality. Contingent fees (e.g. charging a fee only if an unmodified opinion is issued) are strictly prohibited for audits.
• Publicity and Advertising: When promoting services, auditors must remain truthful and honest. They must not make exaggerated claims about the services they offer or their qualifications, and they must never disparage or make misleading comparisons to the work of other auditors.
2. The "Pre-conditions" for an Audit
Before an auditor can say "Yes" to an engagement, they must ensure that the basics are firmly established. These are called the pre-conditions. According to ISA 210 Agreeing the Terms of Audit Engagements, the auditor must confirm two main things:
A. Is the Financial Reporting Framework acceptable?
This asks: "Is the company using the right rules to prepare their financial statements?" For example, are they using IFRS Accounting Standards or an applicable national framework that is appropriate for the nature of the entity and law?
B. Does Management acknowledge its responsibilities?
The auditor must obtain the agreement of management that it acknowledges and understands its responsibilities for the "PRE" elements:
P - Preparation of the financial statements in accordance with the applicable financial reporting framework.
R - Relevant internal controls to enable financial statements to be free from material misstatement, whether due to fraud or error.
E - Evidence and access, providing the auditor with unrestricted access to all information, records, and personnel necessary for the audit.
Quick Review: If management refuses to acknowledge these pre-conditions or if the reporting framework is unacceptable, the auditor must not accept the engagement unless required to do so by law!
3. Client Screening and Acceptance Decisions
Once pre-conditions are verified, the audit firm performs client screening procedures before accepting the appointment.
Key Factors to Consider:
1. Integrity of Management: Does the company have a reputation for aggressive accounting, questionable business practices, or a poor attitude toward internal control? If directors lack integrity, the risk of fraud is unacceptably high.
2. Competence, Capabilities, and Resources: Does the audit firm possess sufficient personnel with the required knowledge of the client's industry, relevant experience, and available time during the reporting deadline?
3. Ethical Requirements and Independence: Can the firm comply with the fundamental principles of ethics? The auditor must identify potential threats (e.g. self-interest, familiarity, or intimidation) and determine if adequate safeguards exist. If independence cannot be maintained, the engagement must be declined.
4. Money Laundering Regulations: The firm must perform Customer Due Diligence (CDD) and "Know Your Client" (KYC) procedures, verifying client identity and beneficial ownership before accepting.
Real-World Analogy: Imagine you are a mountain guide. Before agreeing to lead a group up a mountain, you check if they have the right gear (Pre-conditions), if they are fit enough (Competence), and if they are likely to ignore your safety instructions (Integrity).
4. Professional Clearance (Communicating with the Predecessor Auditor)
When an entity switches from an existing auditor to a new one, the proposed auditor must communicate with the predecessor auditor. This is a crucial ethical duty.
The Step-by-Step Clearance Process:
1. The proposed auditor explains to the prospective client that they are required to contact the existing auditor, and requests the client's written permission to do so.
2. If the client refuses permission, the proposed auditor should decline the appointment, as this represents a major red flag.
3. If permission is granted, the proposed auditor writes to the existing auditor, asking whether there are any professional or ethical reasons why the appointment should not be accepted.
4. The existing auditor requests client permission to discuss client affairs freely, preserving confidentiality.
5. Once permitted, the existing auditor responds, disclosing relevant matters such as unpaid fees, management disputes over accounting policies, or unlawful acts.
5. Continuing Audit Engagements (Recurring Audits)
Auditors do not only evaluate new clients; they must continuously decide whether to continue working with existing clients each year.
A. Annual Client Retention Review
Before agreeing to reappointment on an ongoing audit, the firm must re-evaluate:
• Changes in client risk: Has the client entered financial distress, launched high-risk ventures, or experienced high turnover in senior management?
• Management integrity: Have any recent disputes, ethical concerns, or suspected fraud emerged?
• Independence threats: Has the audit firm held the engagement for so long that a familiarity threat has arisen? Has total fee dependency on the client grown excessive?
If risks or ethical threats cannot be reduced to an acceptable level, the auditor should decline reappointment or resign.
B. Recurring Engagement Letters per ISA 210
On recurring audits, the auditor does not necessarily need to issue a brand-new engagement letter every single year. However, ISA 210 states that the auditor must assess whether circumstances require the terms to be revised or the client to be reminded of existing terms.
Circumstances that warrant sending a new or revised engagement letter include:
• Any indication that the entity misunderstands the objective and scope of the audit.
• Any revised or special terms of the audit engagement.
• A recent change of senior management or those charged with governance.
• A significant change in ownership of the client.
• A significant change in nature or size of the entity's business.
• A change in legal or regulatory requirements.
• A change in the financial reporting framework adopted in the preparation of the financial statements.
6. The Engagement Letter
Once the decision to accept or continue has been made, the terms are documented in the Engagement Letter—the written agreement between the auditor and the client.
Why is it needed?
It minimizes the risk of misunderstandings and helps close the Expectation Gap (the mistaken belief that auditors guarantee absolute correctness or test 100% of transactions).
Principal Contents (ISA 210)
According to ISA 210, the engagement letter must include:
1. The objective and scope of the audit of the financial statements.
2. The responsibilities of the auditor.
3. The responsibilities of management.
4. Identification of the applicable financial reporting framework.
5. Reference to the expected form and content of any reports to be issued, and a statement that circumstances may arise in which a report may differ from its expected form.
7. Common Mistakes to Avoid
Mistake 1: Thinking the auditor prepares the financial statements. Correction: Management is responsible for preparation; the auditor only forms an independent opinion on them!
Mistake 2: Thinking the engagement letter is issued at the end of the audit. Correction: It must be agreed and signed before commencing any audit procedures.
Mistake 3: Contacting the previous auditor without the client's consent. Correction: Client confidentiality is legally and ethically protected; written permission must always be obtained first.
Mistake 4: Assuming a new engagement letter must be reissued automatically every single year. Correction: Existing terms can carry forward unless specific triggers (like changes in management, ownership, or scope) require a new letter.
Summary: Key Takeaways
• Obtaining: Win work through tenders and ethical advertising; never compromise fees or offer contingent fees.
• Pre-conditions: Ensure the reporting framework is acceptable and management acknowledges its PRE responsibilities.
• Acceptance: Evaluate management integrity, firm resources, independence, and perform professional clearance.
• Continuing: Re-evaluate client risk and independence annually; issue a new engagement letter if ownership, management, or reporting frameworks change.
• Engagement Letter: The formal agreement establishing audit scope, roles, and reporting expectations to avoid misunderstandings.