CHAPTER ONE INTRODUCTION 1.1 BACKGROUND TO THE STUDY
The principle purpose of independent auditing is to form an opinion on the accuracy, reliability and fairness of representations in the financial statements of enterprises and to make this available to external users (Okwena, Okioma, and Onsongo, 2010).
According to Hayes, (2005)report the next definition of auditing: “Auditing is the accumulation and evaluation of evidence about information to determine and report on the degree of correspondence between the information and establishedcriteria. Auditing should be done by a competent, independent person.”
Small business (i.e. not more than 10 shareholders) purchases auditing services mostly because theywould like to acquire credit from banks. It has been established that bankers seek audited financial statements in their lending decisions (Okwena, Okioma, and Onsongo, 2010).
An external auditor is an audit professional who performs an audit in accordance with specific laws or rules on the financial statements of a company, government entity and other legal entities or organization and who is independent of the entity being audited. (Institute of internal auditors) The concept of SMEs varies from one country to another depending on the indicators used, (Kitindi, Iwsi and Mganya, 2000).The first criteria, based on the number of employees, defines SMEs as those enterprises below a certain number of workers (i.e. can range from less than10 to less than 50 employees).The second criterion defines the SMEs as the degree of legal formality, and has been used to distinguish between the formal and informal sectors. Here, Micro, small and medium enterprises (MSMEs) are considered as enterprises which are not registered and do not comply with the legal obligations concerning safety, taxes and labour laws. The third criterion defines SMEs as based on the limited amounts of capital and skills per worker.Aritho, (2010) categorize the micro, small and medium enterprises as follows: a micro enterprise as one with 1-5 workers, a very small enterprise with 6-9 workers and a small enterprise as one with less than 30 workers, and medium enterprise having as many as 250 workers.
Even though the definition varies from one country to another (depending on the economic structure), the regulatory and institutional framework for the Nigerian SMEs has been based on the number of employees and the company‟s annual turnover. For instance, the micro enterprises have been defined as those employing less than 10 workers with annual turnover of less than N500,000 and capital formation of less than N5 million for services, or less than N10 million for enterprises doing manufacturing. Small enterprises are defined as those that employ between 10 and 50 workers with annual turnovers between N500,000 and N5 million and capital formation between N5 million and Kshs20 million for services or between N5 million and N50 million for enterprises doing manufacturing.
The contribution of SMEs is more than double that of the large manufacturing sector, which stands at7% of the GDP (Katwei, (2009). Overall, SMEs create 75% of all new jobs. Estimates based on the 1999 baseline survey show that, in the year 2002, the SME sector employed about 5086400 people, up from 4624400 in 2001. This was an increase of 462000 persons and consisted of 74.2% of total national employment (Hodge, 2003).
EU members have had individual definitions of what constitutes an SMEs for example, the traditional definition in Germany had a limit of two hundred and fifty five employees, while for example in Belgium it could have been one hundred employees. In July 2011, the European commission said that it would open a consultation on the definition of SMEs in 2011. In Europe, currently there are three broad parameters which define SMEs are companies up to 10 employees; small companies employ up to fifty workers, whilst medium sized contain up to two fifty employees. (Hodge, 2003) Furthermore, SMEs are defined as firms with either a turnover of ten to fifty (10-50) million or a balance sheet ten to forty three (10-43) million.
Carmichael, (2004), SMEs are unable to carry out the accounting functions internally because of inadequate knowledge and unqualified employees. For example, SMEs lack the necessary skills and resources to perform accounting functions in-house; access to the expertise and specialized knowledge of a professional accountant was evidently the most important reason to outsource (Baltaci, &Yilmaz, 2006). Indeed, majority of SME owner/managers have no professional, management and other formal qualifications (Baltaci, &Yilmaz, 2006). One possible way for a smaller firm to acquire competencies is to engage professional accountant (Jokipii, (2010). Therefore, by relying on professional accountant, smaller firms can get the competence that they need (Jokipii, (2010). Therefore, this study seeks to examine auditing of Small and Medium Scale enterpreises in Nigeria.
1.2 STATEMENT OF THE PROBLEM
The objective of the independent auditor’s examination of financial statements is the expression of an opinion as to whether they present fairly the financial position, results of operations, and changes in financial position in conformity with generally accepted accounting principles (GAAP). The auditor must state whether the examination was made in accordance with generally accepted auditing standards (GAAS).The auditor may give an opinion which may not reflect true and fair view of the organization financial statements and thus may mislead the external users of the financial report. The auditor becomes liable to external users for his report.
Several studies have been conducted in a few advanced countries to search for the problems encountered in auditing a small company (United States, United Kingdom and Canada). Throughout the studies, the main problem facing the auditor was the implementation of the Auditing Standards that normally apply to large company rather than small company.
The problem with the Nigerian SME setting is that SMEs in Nigeria rarely use the services of a qualified accountant. This is demonstrated by the Rommel, (2006)who argued that their results showed that book keeping practice of the SMEs in Nigeria is not adequate and this may negatively affect the financial performance.
Weaknesses in corporate governance practices, lack of pressure from the users of financial statements for high quality information, and the general absence of transparency in the corporate sector, pervade the corporate financial reporting regime in Nigeria. The fact that a number of banks failed in the late 1990s, and the audited financial statements did not provide early warning signals about these failures, has raised concerns among the general public about the quality of accounting and auditing in the country. Against this backdrop, this review of accounting and auditing practices in Nigeria is intended to provide inputs on appropriate measures to improve the financial reporting regime. This study therefore seeks to investigate the auditing of Small and Medium Scale enterprises in Nigeria.
1.3 OBJECTIVES OF THE STUDY
The main objective of the study is to examine auditing of Small and Medium Scale enterprises in Nigeria. The specific objectives are as follows:
iii. To determine whether compliance with accounting standards affects financial audit in SMEs in Nigeria.
1.4 RESEARCH QUESTIONS
iii. To what extent does compliance with accounting standards affects financial audit in SMEs in Nigeria?
1.5 RESEARCH HYPOTHESIS
HO: There is no significant impact of auditing on Small and Medium Scale enterprises in Nigeria.
1.6 SIGNIFICANCE OF THE STUDY
Users of financial information such as investors, government, organization and the general public, relyon the external auditor to present an unbiased and independent audit report. The primary role of external auditor is to express an opinion on whether entity financial statements are free of material statements and whether they reflect true and fair view.
Thus, the findings of this study will provide the audit firms with better insights on the determinants of poor audit performance in SMEs and facilitate the development of strategies to enhance their performance.
The results of the study will also be importance to businesses in the small and medium scale category with limited access to the long-term finance that rely more heavily on owner financing, trade credit and short- term bank loans to finance their needed investment. The study will aid policymakers in designing more effective strategies targeted at increasing the levels of quality audit in SMEs.
The findings of the study will also be of significance to the accountancy sector and other business sectors of the economy as they will be able to appreciate the importance of auditing in SMEs since SMEs are important force in development of Nigerian economy.
This study will contribute to the growing body of literature on financial audit. The conceptual framework developed in this study will provide a cohesive basis for conducting further Study to provide empirical evidence that will enhance understanding the determinants of financial audit in SMEs. A further research can be conducted to highlight other determinants of financial audit in small and medium enterprises in Nigeria.
1.7 SCOPE OF THE STUDY
The study examines auditing of Small and Medium Scale enterprises in Nigeria. It will be too cumbersome for the researchers to study Rivers State at large. Therefore, the researchers decided to limit the study to some selected Small and Medium Scale enterprises in Port Harcourt metropolis, Rivers State which include Jamil Motors and Luminary Telecommunication Limited.
1.8 LIMITATION OF THE STUDY
In carrying out this research work, the researcher was constraint by lot of factors which include but not limited to the following:
TIME CONSTRAINT: The time frame provision for this study was short.
FINANCIAL CONSTRAINT: Usually, a study of this nature involved some level of expenditure therefore, finance was also a limiting factor.
POOR RESPONSE: poor response from the respondent and inability to access the entire population of the study.
1.9 DEFINITION OF TERMS
SMEs: Small and Medium Scale Enterprises.
Joint Audit: A joint audit is an audit on a legal entity by two or more auditors to produce a single audit report, thereby sharing responsibility.
Financial Reporting: This is the process of producing statements that disclose an organizations financial status to management, investors, government and other users of financial information.
Auditor: An auditor is someone who prepares and examiners financial records.