1.0 Background of the study
The need for external auditors may be seen as a response to the agency problem and the audit functions as a mechanism to attest to the accountability and stewardship of company management to reduce the possibility of innocent mistakes and deliberate misstatements such as fraud and management manipulation (Stirbu et al., 2009). Over the years, the role of auditors become increasingly important especially in a capitalist economy as the process of wealth creation and political stability depends heavily upon confidence in processes of accountability and how well the expected roles are being fulfilled (Stirbu et al., 2009). This gives rise to research interest on ‘expectations gap’, the differences between what the public expects from an audit and what the auditing profession prefers the audit objectives to be (Stirbu et al., 2009). Are auditors responsible for detecting fraud in the companies they inspect? Most people think they are. This gap between the expectations of auditors and everyone else has existed for a long time.
That an auditor has the responsibility for the prevention, detection and reporting of fraud, other illegal acts and errors is one of the most controversial issues in auditing, and has been one of the most frequently debated areas amongst auditors, politicians, media, regulators and the public (Gay et al. 1997). This debate has been especially highlighted by the collapse of big corporations including Enron and Worldcom worldwide and recently some banks in Nigeria. The unanticipated fall of Enron and WorldCom traumatised the world as both of these companies received clean bills of health from their auditors immediately prior to their bankruptcy.
According to Godsell (1992), there is a common belief that the stakeholders in a company should be able to rely on its audited accounts as a guarantee of its solvency, propriety and business viability. Therefore, if it transpires, without any warning that the company is in serious financial difficulty, it is widely believed that auditors should be made accountable for these financial disasters.
1.1 Auditors’ responsibilities in fraud detection
Fraud detection has been considered a major purpose of auditing for very long time. Gupta and Ray (1992) noted that internal auditing showed fraud discovery to have been central in both medieval an early modern times. Flesher et al. (2005), in their review of American auditing since the earliest colonial days, described an activity suffused with the intent to detect financial misconduct. The role of auditors has not been well defined from inception (Alleyne and Howard 2005). Porter (1997) reviewed the historical development of the auditors’ duty to detect and report fraud over the centuries. Her study shows that there is an evaluation of auditing practices and shift in auditing paradigm through a number of stages. Porter’s study revealed that the primary objective of an audit in the pre-1920’s phase was to uncover fraud. However, by the 1930’s, the primary objective of an audit had changed to verification of accounts. This is most likely due to the increase in size and volume of companies’ transactions which in turn made it unlikely that auditors could examine all transactions. During this period, the auditing profession began to claim that the responsibilities of fraud detection rested with the management. In addition, management should also have implemented appropriate internal control systems to prevent fraud in their companies.
Prior to the recent bank consolidation in Nigeria, twenty-five banks met the criteria outlined by the Central Bank of Nigeria (CBN). because of certain circumstances including fraud, some of the banks went bankrupt. The following Nigerian banks initially met 25 billion naira recapitalization:
- Access Bank
- Diamond Bank
- Equitorial Trust Bank
- First City Monument Bank
- Fidelity Bank
- First Bank Plc
- First Inland Bank
- Guaranty Trust Bank
- IBTC-Chartered Bank
- Intercontinental Bank
- Nigeria International Bank
- Oceanic Bank
- Platinum Bank
- Skye Bank
- Spring Bank
- Stanbic Bank
- Standard Chartered Bank
- United Bank of Africa
- Sterling Bank
- Union Bank
- Unity Bank
- Wema Bank
- Zenith Bank Plc
1.2 Capital requirements
Generally, the central bank do grant short term facilities to banks in order to enable them adjust their asset positions when necessary because of certain developments that may affect their operations such as the sudden withdrawal of deposits or seasonal requirements for credits beyond the immediate financial capacity of the bank. However, an expanded discount window becomes increasingly necessary in very unusual situations and exceptional circumstances.
The capital requirement is a bank regulation, which sets a framework on how banks and depository institutions must handle their capital. The categorization of assets and capital is highly standardized so that it can be risk weighted (see Risk-weighted asset). Internationally, the Basel Committee on Banking Supervision housed at the Bank for International Settlements influence each country’s banking capital requirements. In 1988, the Committee decided to introduce a capital measurement system commonly referred to as the Basel Accord. This framework has been replaced by a significantly more complex capital adequacy framework commonly known as Basel II. After 2012 it will be replaced by Basel III. While Basel II significantly alters the calculation of the risk weights, it leaves alone the calculation of the capital. The capital ratio is the percentage of a bank’s capital to its risk-weighted assets. Weights are defined by risk-sensitivity ratios whose calculation is dictated under the relevant Accord.
Presently, the list of commercial banks in Nigeria is as shown below. The initial twenty-five (25) banks listed above underwent some further scrutiny by the apex bank- CBN and it was found that certain operational procedures were not healthy that culminated in some banks taking over of some banks (acquisition).
- Access Bank – Acquired Intercontinental Bank
- Diamond Bank
- Ecobank Nigeria – Acquired Oceanic Bank
- Enterprise Bank Limited – Formerly Spring Bank
- Fidelity Bank Nigeria
- First Bank of Nigeria
- First City Monument Bank – Acquired FinBank
- Keystone Bank Limited – Formerly Bank PHB
- Guaranty Trust Bank
- Mainstreet Bank Limited – Formerly Afribank
- Savannah Bank
- Skye Bank
- Stanbic IBTC Bank Nigeria Limited
- Standard Chartered Bank
- Sterling Bank – Acquired Equitorial Trust Bank
- Union Bank of Nigeria – Owned By African Capital Alliance Consortium
- United Bank for Africa
- Unity Bank Plc.
- Wema Bank
- Zenith Bank
Auditing is synonymous with independent examination. Records of transactions are always thoroughly and routinely examined by auditors- internal and external.
1.3.1 Nature and development
The word “audit” comes from the Latin word audire which means “to hear” because, in the middle Ages, accounts or revenue and expenditure were “heard” by the auditor. Statutory audits (i.e. carried out in accordance with statutory provisions) become mandatory for companies in 1900. At this time the purpose of an audit was to detect fraud, technical errors and errors of principle. However, the recognition in case law that it is unreasonable to expect auditors to detect all aspects of fraud, even though they exercised reasonable skill and care, means that this is not now a primary purpose. Over the last 20 years or so the auditing profession has sought to broaden its role (e.g. with value for money, operational audits, etc.).
Internal auditors verify the effectiveness of their organization’s internal controls and check for mismanagement, waste, or fraud. They examine and evaluate their firms’ financial and information systems, management procedures, and internal controls to ensure that records are accurate and controls are adequate. They also review company operations, evaluating their efficiency, effectiveness, and compliance with corporate policies and government regulations. Because computer systems commonly automate transactions and make information readily available, internal auditors may also help management evaluate the effectiveness of their controls based on real-time data, rather than personal observation. They may recommend and review controls for their organization’s computer systems, to ensure their reliability and integrity of the data. Internal auditors may also have specialty titles, such as information technology auditors, environmental auditors, and compliance auditors.
Technology is rapidly changing the nature of the work of most accountants and auditors. With the aid of special software packages, accountants summarize transactions in the standard formats of financial records and organize data in special formats employed in financial analysis. These accounting packages greatly reduce the tedious work associated with data management and recordkeeping. Computers enable accountants and auditors to be more mobile and to use their clients’ computer systems to extract information from databases and the Internet. As a result, a growing number of accountants and auditors with extensive computer skills specialize in correcting problems with software or in developing software to meet unique data management and analytical needs. Accountants also are beginning to perform more technical duties, such as implementing, controlling, and auditing computer systems and networks and developing technology plans.
Directors or other managers of an enterprise have the responsibility of stewardship for the property of that enterprise. Responsibilities, which may be duties embodied in statute, may include:
- Keeping books of accounts and proper accounting records;
- Producing a balance sheet and income statement that show a true and fair view;
- Producing a directors’ report which is consistent with the financial statements and contains certain specified information.
A director can be described as an agent having a fiduciary relationship with a principal (i.e. the company that employs him). In meeting their responsibilities of stewardship, managers have fiduciary duties to safeguard assets and implement and operate an adequate accounting and internal control system.
Auditors act in the interest of the primary stakeholders whilst having regard to the wider public interest. The identity of the primary stakeholders in determined by reference to the statute of agreement requiring an audit. For companies, the primary stakeholder is the general body of shareholders.
1.3.3 Objective and general principles governing an audit of financial statements
The objective of an audit is to enable the auditor to express an opinion whether the financial statements are prepared, in all material respects, in accordance with an identified financial reporting framework. It is management’s responsibility to prepare the financial statements. Whilst the auditor’s opinion adds credibility to the financial statements. It is no guarantee of future viability not of management’s efficiency or effectiveness.
A degree of imprecision is inevitable due to inherent uncertainties and use of judgment. Only reasonable assurance is given . The amount of audit work is determined by:
- Requirements of professional bodies and legislation
- Agreed terms of the engagement
- The need to exercise professional skepticism
The ability to reduce audit risk is limited by:
- The necessity to sample
- Inherent limitations in any accounting and control systems
- Possible fraudulent collusion
- Certain evidence will be persuasive not conclusive
1.3.4 General principles governing the auditor
188.8.131.52 Ethical principles
‘The auditor should comply with the International Federation of Accountants’ (IFAC) “Code of Ethics for Professional Accountants”.
- Independence integrity
- Professional competence and due care
- Professional behaviour
- Technical standards.
184.108.40.206 Adherence to standards on auditing
An audit should be conducted in accordance with ISAs. ISAs provide: Standards (i.e. basic principles and essential procedures); and Related guidance (i.e. explanatory and other material).
220.127.116.11 Professional skepticism
An audit should be planned and performed (“conducted”) with an attitude of “professional skepticism” recognizing circumstances that may bring about material misstatement in the financial statements.
An auditor should assume neither dishonesty nor unquestioned honesty.
1.4 Duties of an auditor
The statutory duties of the auditor basically entail the following:
- Duty to make certain inquiries
- Duty to make a report to the company on the accounts examined by him
- Duty to make a statement in terms of the provisions prescribed.
The auditor has a duty to inquire into certain matters and seek any information required for the audit, from the company. This could be in relation to security on loans and advances made by the company, any transactions entered into by the company and whether they are prejudicial to the interests of the company, whether personal expenses are recorded and charged to proper accounts, any transaction with respect to sale of shares and whether the position depicted in the books and balance sheet is correct, honest and proper.
If there are any suspicious circumstances or unusual transactions like unavailability of original documents, or sudden increase or decrease in shareholdings or debt, employees given the liberty to access unauthorized documents etc., then the auditor is under a clear duty to “probe into these transactions” and ensure that they are proper and legal. At all times, auditor has to act with care and skill of a professional of reasonable competence. The degree of care and skill required however, varies from case to case.
1.5 Auditor’s report
Under Section 227 of the Companies Act, the auditor is supposed to report to the beneficiaries of the company i.e. the shareholders in the general meeting, about the books and accounts of the company, the balance sheet and profit and loss account on the basis of their assessment. They have to give their opinion on the financial position of the company and also make sure that it has been fairly, truly and honestly depicted. As per Section 227 of the Companies Act, the report should also state:
- That the auditor has obtained all information and explanations, which are to the best of his knowledge and belief necessary for his purpose;
- Whether in his opinion, all the books of accounts and requisite documents necessary for the audit have been furnished by the company;
- Whether the balance sheet and profit and loss account comply with the books of accounts; and
- Any observation and comments on the functioning of the company, especially, which may have an adverse effect on the company.
He is thus required to report not merely on the balance sheet but on the accounts he examines, and he also has to express his opinion whether the company has properly kept all the books as per law and whether the balance sheet and profit and loss account are in accordance with the acco