Introduction
Willis & Adams must address critical elements discussed in this report before accepting the new client, EarthWear Clothiers (EarthWear), for carrying out its external audit. Since EarthWear is a publicly listed company and its operations are not limited to a single market, therefore it is vital to assess the capabilities of the audit firm and match them with the requirements of the client before accepting the offer.
Corporate Structure
The corporate structure analysis before audit engagement assists in determining the role of individuals and committees to control and oversee the decisions and operations of the organization. Furthermore, the audit firm can give recommendations for improving the capability of these committees for effective management and reporting of business transactions. EarthWear started in 1973 and was incorporated in 1975 with its registered office in Delaware (EarthWear Clothiers, 2016). The corporate structure of this public limited company is hierarchal rather than flat. James G. Williams is the board’s chairman, Celvin J. Rogers is the company’s president and CEO, and Dominique DeSantiago is the executive vice president and COO (EarthWear Clothiers, 2016).
Three senior vice presidents are responsible for the sales, finances, and operations of the company and are reporting to the CEO and COO. The financial statements are approved and signed by the CEO and the CFO. The Securities Exchange Commission regulates its financial affairs. The audit committee has independent directors who oversee internal audit activities and internal controls’ effectiveness. The annual report does not provide information about corporate governance practices, including the remuneration of board members and key management individuals, which should be of concern to the audit team. Wills & Adams has audited the company’s financial records and internal controls since its incorporation and has close relationships with the board members and management staff.
The management letter to shareholders indicates they provided Wills & Adams full access to the company’s financial accounts and records. It allowed the firm to carry out the required auditing procedures and provide reasonable assurance that the financial information along with the supplementary data was correct and without any material error or omission.
Independence, Knowledge, and Staffing Capabilities
PCAOB (2002) requires auditors to work independently and should not act in a way that would raise concerns about their bias or unethical practice (AS 1005: Independence). Although Willis & Adams is not offering consultancy or management accounting services to EarthWear, it has been auditing the client’s accounts since 1975. It may suggest that Willis & Adams has a financial dependency on EarthWear as it is a small audit firm with few clients. The suspected dependency on one client can affect its ability to perform the audit independently.
The external auditor must have knowledge of the client’s business and the scope of its operations and internal controls to plan the audit effectively (AS 2101: Audit Planning) (PCAOB, 2003). Willis & Adams has provided its auditing services to EarthWear for the last four decades and is fully aware of the matters affecting its industry, laws, and regulations, changes in the market, operational complexities, business risks, materiality, and the effectiveness of internal controls. EarthWear has an independent internal audit program and committees that are governed by board members and management.
The staffing capability of an audit firm is crucial for performing all tasks set out in the audit plan depending on the nature, size, and complexity of the business. Wills & Adams has previously conducted several audits of the firm, and it is aware of the staffing requirements for carrying out the external audit and tests. However, there are limitations of conducting store and warehouse audits in different countries, including the UK, Germany, and Japan. Moreover, it would be difficult to check other financial records that are generated by the company’s operations in those countries as Wills & Adams do not have its or representative offices in those countries.
Rational Decision Making
Wills & Adams has significant knowledge and experience in auditing EarthWear’s financial statements. It understands internal and external factors that affect the company’s business, which could also affect its ability to perform the audit appropriately and independently. The firm’s team has maintained the required level of independence, and its decisions were not affected by the long-term relationship with EarthWear. The audit approach would be to identify any weaknesses in the previous years’ audit and adopt ways to overcome them.
Wills & Adams must also view the importance of having a valuable client such as EarthWear and carry out its procedures with professionalism. The audit firm advises the management to improve transactions’ data collection, recording, and reporting so that there is no case against the company for breaching accounting standards and regulations.
Wills & Adams has been with the company in the times when new accounting standards were adopted and new regulations and frameworks by the PCAOB and the Committee of Sponsoring Organizations of the Treadway Commission (COSO) were implemented. Therefore, the audit firm has a good understanding of the business and changes in its financial conditions, which makes it suitable for engaging with EarthWear for the next year’s audit.
References
EarthWear Clothiers. (2016). EarthWear annual report 2015. EarthWear Clothiers. Web.
PCAOB. (2002). AS 1005: Independence. Web.
PCAOB. (2003). AS 2101: Audit planning. Web.