1.26 Value of auditing
Would you obtain an audit for this company? Explain the reasons for your decision. Yes, audits exist because of regulatory mandate (required by government). There are three theories which propose reasons why demand for audits might exist without regulatory mandate: 1. Agency theory
(The focus of the agency demand for auditing is more related to the stewardship role of accounting- which is more an examination of what has happened.) The separation of ownership and control of organizations has resulted in an information asymmetry problem for the owners of the organization- -agency problem. The owners entrust managers to run the company so they could control the business to make any decision about the business. However, the managers do not necessarily have the same incentives as the owners of the company and will probably be trying to maximize their own resource consumption. It may be that they may enjoy first-class travel, dining and accommodation which may be more than is necessary for the company. Most importantly, they might manipulate earnings in the short term to earn bonuses, which would not be in the long-term interest of the company. The agency problem is why managers produce financial reports for shareholders to try to alleviate their concerns. However, there is still a risk that this information may be biased. For this reason, it is in the best interest of both parties to obtain the services of an independent auditor to check the financial statements prepared by management and provide reasonable assurance that it is true and fair to the users of the financial statements. An audit by someone independent of the manager reduces the incentive problems that arise when the firm manager does not own all of the residual claims on the firm (Jensen and Mackling). So, an audit is a monitoring activity that will increase the value of the firm when there are agency problem. Following these arguments, regulation would not appear to be appearing to be necessary to observe audits occurring. 2. Information hypothesis
(Information hypotheses is more towards the decision usefulness role of accounting) The audit improves the quality of information, which provides benefits through the reduction of risk, improvements of decisions, and the increase in profits. And investors will demand this information because it is useful for decision making and will assist them in assessing the risks and returns associated with their investments. There will also be value within the firm to assist in improving financial data for internal decision making; it can detect errors and motivate employees to exercise more care in preparing records in anticipation of an audit.
3. Insurance hypothesis.
Firstly, The related to investors and creditors who might demand an audit to show that they are being prudent to insure against losses which is to create additional demand for auditing so that insurance can be prudent against loss. Secondly, a major reason for a demand in audition in Australia is due to the significant changes in the legal environment, which have reduced the legal exposure for auditors considerably.
The first one will be investors, who might demand an audit to show that they are being prudent to insure against loss. 1.27 Expectation gap
Discuss the views of the audit partner.
This case said users of audit want all fraud found, and a guarantee that will continue forever which quite unreasonable and not the value of audit create to do. Moreover, audit can do more issue, nut it charge more money. This situation exists because of the expectation gap. The expectation gap comprises the difference between what financial statement users believe the audit provides and what and audit actually does provide.
1. A gap between what society expects auditors to achieve and what they can be reasonably expected to accomplish (reasonableness gap) When there is a difference between what this...
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