Auditors are required to be independent in the performance of audit activities such that their professional judgement is unbiased and in such manner that will give the assurance of independence and objectivity to a third party having knowledge of all relevant information. Auditor Independence refers to “the independence of the Internal Auditor or of the External Auditors from influence by any party that may have a financial interest in the business being audited. Independence requires integrity and an objective approach to the audit process” – Wikipedia.
An Auditor’s independence is impaired if the Auditor is not capable of exercising objective and impartial judgment on all issues encompassed within the audit engagement.
According to the Institute of Chartered Accountants in England and Wales (ICAEW), the most effective way to guarantee the independence of the auditor is to provide guidance centered on a framework of principles rather than a detailed set of rules that can be complied with to the letter but circumvented in practice.
The SEC and CBN Codes of Corporate Governance as well as the draft FRC Code for Public & Private Sector Entities (FRC Code) set guidelines for safeguarding the independence of the Auditor. Both the SEC and CBN Codes stipulate a maximum ten (10) year tenure for external auditors and re-appointment after a seven (7) year and ten (10) year cooling-off period respectively. The SEC Code goes further to recommend the rotation of the audit partner and personnel on a regular basis without compromising the continuity of the external audit process. The draft FRC Code limits the tenure of office of the external auditor to a maximum period of five (5) years and re-appointment after a five (5) year cooling-off period.
Additional measures for safeguarding the independence of the external auditor is the prohibition of the provision of certain non-audit services to the company. The CBN Code expressly prohibits external auditors to banks from providing services that will amount to a conflict of interest such as bookkeeping services; services related to accounting records or financial statements of the Bank; appraisal or valuation services, fairness opinion or contribution-in-kind reports; actuarial services; internal audit outsourcing services; management or human resource functions including broker or dealer, investment banking services and legal or expert services.
The Codes also prohibit certain relationships between auditors and the companies they audit which are likely to impair Auditor independence. These include:
- Related Parties – An Audit Firm shall not provide Audit services to a bank if one of the bank’s top officials (Directors, Chief Finance Officer, Chief Audit Officer, etc) was employed by the firm and worked on bank’s audit during the immediate past two (2) years;
- Direct or material indirect business relationships – Audit firms may not have any direct or material indirect business relationships with the audit client, its officers, directors or significant shareholders
- Certain Financial Relationships – Financial relationships such as creditor/debtor relationships, banking, broker-dealer, futures commission merchant accounts, insurance, etc.Audit Firms are also prohibited from accepting engagements on a contingent fee or a commission basis;
Familiarity and the often substantial fees earned from the provision of non-audit services by the external auditor are the major threats to auditor independence.
The responsibility for monitoring and assessing the independence of the internal and external audit functions rests with the Audit Committee. As a key organ within the corporate governance framework, the Audit Committee has oversight over the integrity of financial reports. The Committee should therefore take necessary measures to ensure that the audit process is evaluated for effectiveness and integrity as well as satisfy itself that the independence of the auditors has not been compromised. The Audit Committee should regularly review all of the relationships between the Auditor and the company’s management and directors. The Committee should also ensure that auditor is not providing any of the prohibited services. In addition to those services specifically prohibited by the Codes, the Audit Committee should consider whether any service provided by the audit firm may impair the firm’s independence in fact or appearance.
All potential independence impairments and related issues should be thoroughly investigated by the Audit Committee and discussed with the Board of Directors. The Committee should also consider seeking guidance from legal counsel, or other professional where it has any cause for concern with respect to the independence of the External Auditor. It is recommended that the Board should codify a policy to provide some guidance to the Audit Committee in this regard. The policy should specify required disclosures to be made by the Audit Firm, contain a non-exhaustive list of prohibited non-audit services as well as prohibited services. The Policy should also provide the procedure for pre-approving non-prohibited services.
The responsibility for ensuring auditor independence should however not rest solely with the Audit Committee. The auditor has a significant role to play in safeguarding his independence and should be guided always by the principles of integrity and objectivity as well as exercise professional judgement when providing non-audit services that may potentially compromise his independence.