EFFECT OF AUDIT REPORT ON ANNUAL FINANCIAL REPORTING QUALITY OF ORGANIZATION

CHAPTER ONE

INTRODUCTION

1.0 BACKGROUND TO THE STUDY

In the wake of the financial crisis of 2007–2009 and the failure of a number of global corporate entities, investors, analysts, and regulators continue to wonder exactly what happened, what could have prevented it, and what measures can be taken to ensure it doesn’t happen again. With companies collapsing on the heels of financial reports that sounded no alarm bells for current or potential investors, it’s understandable that the quality of financial reporting is coming under scrutiny. While there are numerous discussions and activities underway around auditing standards, judgments, estimates, and other technical reporting components, audit committees may find it valuable to consider the connection between audit reports and the quality of financial reporting. If sound and relevant financial reporting are one of the direct results of a quality audit report – and I believe that it is – then the immediate questions to ask may be: what does “audit report” mean? Will current audit reform proposals improve the quality of audit reports? And how can the audit committee help the process?
A reliable audit report is imperative in corporate organizations where the retention of public confidence remains of utmost importance.  In this regard, the auditors are the essential fulcrum upon which the concepts of objectivity, fairness coupled with independence and integrity of financial reporting rest.  This assertion, notwithstanding, it suffices to say that reports from statutory auditors are still challenged.  The financial scandal is an undesirable occurrence that had threatened the going concern status of many corporate organizations in Nigeria.  In spite of frequent development in technology such as computer-assisted audit technique, internet, automated accounting system, etc, financial scandals in both public and private organizations still top the headlines of Nigerian newspapers on daily basis. The auditor’s report is a disclaimer thereof, issued by either an internal auditor or an independent external auditor as a result of an internal or external audit or public]], among others) as an assurance service in order for the user to make decisions based on the results of the audit. An auditor’s report is considered an essential tool when reporting financial information to users, particularly in business. Since many third-party users prefer or even require financial information to be certified by an independent external auditor, many shareholders rely on auditor reports to certify their information in order to attract investors, obtain loans, and improve public appearance. Some have even stated that financial information without an auditor’s report is “essentially worthless” for investing purposes. Stakeholders too often see the audit report as a relatively discrete document when, in fact, the processes and controls that ensure the broader integrity of the audit report comprise much more than the audit opinion itself. These processes and controls range from the company’s collection and recording of financial information to the actual audit, through to the issuance of the annual financial report. As a result, the quality of financial reporting – so critical to investor confidence and transparency is directly dependent on the quality of the audit report. The value of an expert, independent opinion on a company’s financial statements simply can’t be underestimated. And the simple knowledge that the audit team is coming, combined with the requirements and internal controls that exist around it, exerts a preventative, quality-control pressure on financial statement preparation – even before the audit takes place. An effective audit report starts with a thorough understanding of the context within which the client and other key stakeholders operate. This context involves both the governance and management process, and the accountability arrangements that bind them together, In Nigeria, the spate of corporate failure witnessed in the financial sector in the early 1990s brought auditors into focus and caused the Nigerian public to question the roles of auditors (Ajibolade, 2008) Also, an emerging body of literature argues that accounting professionals have increasingly used their expertise to conceal and promote anti-social practices (Bakre, 2007), study by Bakre (2007) also documented various cases in which accountants and external auditors in collaboration with management and director of companies falsify and deliberately overstate accounts.  An investigation into financial report of Afribank (Main street plc) implicated Akintola Williams and Deloitte in facilitating an overstatement of the bank’s account by the management.  Other Nigerian cases have also been documented in which a number of professional accounting firms were involved and indicted for anti-social  practices such as issuing fake and unqualified audit report in conflict with their professional claims in  an attempt to be acting in public interest and it was suggested that the matter needed further investigation (Bakre, 2007). The finality of the auditor’s work is made by writing a report, with the help of which it expresses an opinion over the audit financial situations so that any user of this information is able to make decisions based on it. “The report represents the means by which the auditor tells the holders and to any other interested users, the way in which it is satisfied by the way in which the financial situations have been made”(Dobroțeanu, 2002).   The audit report is a commercial document in which it is shown the length of the done audit papers by the auditor and the professional opinion that he/she has reached as a result of analyzing financial situations. It represents the final product of the auditor’s work and the only document through which can be appreciated the professionalism. Moreover, the purpose of an audit is “to improve the degree of trust of the users across the financial situations. This thing is obtained by expressing an opinion by the auditor. ”(Manual of  International Standards, 2009). The problem is that most of the time it is expected for an answer from the auditors which shouldn’t be given according to the law. “The opinion of the auditor concerning the financial situations treats the way in which the financial situations are prepared, in all significant aspects, according to the general frame of the applicable financial report”(Manual of  International Standards, 2009). It is important to note that auditor’s reports on financial statements are neither evaluations nor any other similar determination used to evaluate entities in order to make a decision. The report is only an opinion on whether the information presented is correct and free from material misstatements, whereas all other determinations are left for the user to decide.It is also important to get conscious of the fact that the audit does not mean remaking all the accounting documents. It uses sample techniques and significance thresholds in verifying the transactions or analyzing the indices so that a professional opinion could be formed. This way can be expressed the opinion of “reasonable” and “solid” or “clear image” even if the firm has some financial difficulties.

 

1.2. STATEMENT OF PROBLEM

In the recent years, auditors have been accused of being involved in what has been described as harmful and anti-social behavior purely for the sake of high fees, Traditionally, regulators, investors and financial analyst have relied on corporate financial statement to make senses of bank liabilities, risk, and economic exposure, but this has been highly problematic (Arnold and Sikka, 2001). That the credibility of financial statements prepared by the Auditor remains the primary means of informing shareholders and other stakeholders about the financial performance, progress, and position of the business (Dabor and Adeyemi, 2009). Bakre (2007) submitted that the key issue in the field of auditing and assurance is to recognise that auditing can be of even greater value, if it looks beyond the traditional financial issues and focuses on areas that matter to a wide range of stakeholders and the public, which makes people conclude that auditors face credibility issues,  thus, for instance, there is widespread  public perception that  auditors lack independence from company executives and as a result, there is concern about the quality of audits. Also, at the international level, the theme of the Role of the Auditor in presenting credible audit reports to the companies presents a great interest and has been deeply discussed. The central point of these discussions have been the cases in which various firms have been emitted clean audit reports yet they still find it hard to control their firms until it can longer survive in the competitive world, and this was the starting point for mistrusting the true significance and utility of the audit report. The existence of some important fake facts which have not been stressed by the audit has led to the question which is, in fact, its role? The answer to this question is not as simple as it looks; therefore it is noticed at the international level a deeper distance between the position of the auditors and the users of the information, Moreover it is noticed an exaggerate tendency to standard the text in the audit report which hides the users the content of the audit. It has been noticed at some commercial firms, very different, audit reports almost identical. In all of them, it is stated that they have been followed all the necessary proceedings, without any personalization or proof to testify a depth of the work that has been done. Nigeria lost more than N6 billion ($42.9million) within the banking sector alone. (This Day, 16 October 2006). Advanced audit skills are required of professionals to cope with the rapidly changing world of globalization and advancement in information technology (Adeyemi, 2008).  Adeyemi (2008) further said that Professional Accountants (Auditors) must necessarily be dynamic and creative to enable the profession to achieve its objective of steadily advancing the science of accountancy.  Against this backdrop, this paper seeks to find out why frauds and irregularities are still reported after the performance of the duties of professional Accountants (Auditors). A number of scholars have shown that many accountants particularly members of the Institute of Chartered Accountants of Nigeria have been responsible for the crisis in the banking and manufacturing sectors in Nigeria as a result of their unethical and anti-social practices through lack of concrete audit report, which in turn affect the financial reporting quality of this firms. These studies show that the regulatory framework in Nigeria is weak because a member of the professional firms implicated in the act has not yet been sanctioned. The paper examined whether the concepts of integrity, objectivity, independence, fairness and quality assurance functions are strictly adhered to by examining the following contending issues and problems: i. Do accounting firms issue qualified audit reports in order to generate more income from the management?

ii. How long has a single firm served as the statutory auditor of an organization?

iii. Whether there are regular training and educational improvement for the members of staff?

v. Is the statutory audit of a firm not adversely affecting the independence and integrity of the auditors by the non-audit services?

It is against this backdrop that this research study tends to evaluate the effect of internal audit on the financial reporting quality of the organization.

 

1.3 OBJECTIVES OF THE STUDY

The Major Objectives of this study are:

Determine the effects of the audit reports on financial reporting quality in Nigeria Determine the cause of issuing unprofessional audit reports by professional auditors. Eliminate and suggest a possible remedy for the problem of unethical auditing practices perpetrated by auditors. Ascertains the benefits and limitations associated with this auditing concept. Determine the perceived roles of the Audit report on financial reporting. Evaluate the effects of the longstanding relationship between the auditors and its client Assess the roles of auditors in preventing the failures of the organization through audit report quality.

 

1.4. STATEMENT OF HYPOTHESIS

Researcher seeks to test the validity of the following hypothesis:

HYPOTHESIS ONE (1):

Hi: There is no significant relationship between auditor’s report and the financial statement of an organisation.

HYPOTHESIS TWO

There is no significant relationship between the serving period of an auditor and his audit report on his client organization.

 

1.6 SIGNIFICANCE OF STUDY

This type of research supposes getting new knowledge, contributing to enrich the theory of the financial audit and to identify new problems of this profession in order to find an answer to them. Improving the quality of accounting information offered by the auditors represents again both for users and society in general, contributing to the development of the profession and to promoting  of the good name of the external audit, it  will also be of immense benefit to the shareholders who have contributed the funds for the business and needs a reward in form of dividends. The study contributes to the existing literature addressing Auditor’s Report issues-particularly in a developing country like Nigeria. The study is considered unique at least in Nigeria because it also considers auditing issues from the perspective of the auditors themselves. There is no doubt that this research study will continue to be of interest in Nigeria, just like in other countries of the world. This study will provide additional insight into the auditing literature, and provided useful input to audit profession, research academic, and related governmental departments such as Office of the auditor general and various auditing firms. Finally, this study will be of great significance to schools and students, it will serve as a reference point for future researchers who will want to research more on the topic.

 

1.8 SCOPE AND LIMITATION OF STUDY

Since the study focus on the effect of internal audit on financial reporting quality of the organization, For the purpose of carrying out a detailed analysis of research topics, the research will be restricted to the two selected companies in Nigeria.

The researcher in the course of carrying out the research was faced with the following problems and constraints.

(a)  Time factor: Time shortage posed serious challenges since it was indeed very short considering the enormity of the research work.

(b) Lack of information and data due to the unavailability of materials and other vital information. Libraries are either out of stock or scanty in their content of relevant materials.

(c) Financial problem was also a deterrent in carrying out the research since the available fund was not enough to sustain the vast research proposals, it was also a challenge in that regard.

 

1.9 DEFINITION OF TERMS

1. Audit report: this is a disclaimer thereof, issued by either an internal auditor or an independent external auditor as a result of an internal or external audit or public]], among others) as an assurance service in order for the user to make decisions based on the results of the audit.

2. Audit: Audit can be defined as the independent examination of a financial statement and expression of opinion on the financial statement of an enterprise by an appointed auditor in pursuance of that appointed and in compliance with any relevant statutory obligation.

3. Auditor:  Auditor is a qualified accountant who also passed a professional examination. Such a person must be of good conduct and have a vast knowledge and ability to understand a practical business, endeavor always to grasp the technicalities and business, methods of any concern whose account he undertakes to audit.

4. External Audit: This is an audit carried out by an independent person who is not an employee of the enterprise.

5. Quality audit is the process of systematic examination of a quality system carried out by an internal or external quality auditor or an audit team.

6. Statutory Audit represents the audit for annual financial situations or for the consolidated annual financial situations as it is for community legislation adjusted to the national legislation.

7. Unqualified Opinion: An opinion is said to be unqualified when the Auditor concludes that the Financial Statements give a true and fair view in accordance with the financial reporting framework used for the preparation and presentation of the Financial Statements.

8. Objectivity: refers to the need to maintain impartial judgment (e.g. not developing analysis to support a decision that the accountant knows is not correct.

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