Chapter 27 Flashcards
Accountants' Liability
Who regulates public accounting firms?
Public Company Accounting Oversight Board
Who must auditors report to under SOX?
The audit committee of the client’s board of directors, not to senior management
What does SOX prohibit accounting firms from doing?
Firms that audit public companies cannot provide consulting services to clients on topics such as bookkeeping, financial information systems, human resources, and legal issues unrelated to the audit
What conflicts of interest can an accounting firm have?
An accounting firm cannot audit a firm if one of the client’s top officers has worked for that accounting firm within the prior year and was involved in the firm’s audit
What are term limits on audit partners?
- lead audit partner must rotate off an account for at least 5 years after 5 years with a client
- other partners must rotate off an account every 7 years for at least 2 years
What is an auditor?
An independent evaluator of the financial statements issued by management to investors and creditors
What is vouching?
An auditor chooses a transaction listed in a company’s books and checks backward for original data to support it
What is tracing?
An auditor takes an item of original data and tracks it forward to ensure that it has been properly recorded throughout the bookkeeping process
What is GAAP and what does it do?
Generally Accepted Accounting Principles
The rules for preparing financial statements
What is GAAS and what does it do?
Generally Accepted Auditing Standards
The rules for conducting audits
What is the IFRS?
International Financial Reporting Standards
What is an opinion?
After the audit is complete, the accountant issues an opinion that indicates how accurately the financial statements reflect the company’s true financial condition
What is an unqualified (clean) opinion?
The most favorable report an auditor can give
What is a qualified opinion?
Indicates that although the statements are generally accurate, there is an unresolved issueW
What is an adverse opinion?
Auditor believes the firm’s financial statements do not accurately reflect its financial position
Bad news
What is a disclaimer of opinion?
Issued when auditor doesn’t have enough information to form an opinion
If an auditor shows that statements are inaccurate, she cannot hide behind a disclaimer opinion
What is an engagement letter?
A written contract by which a client hires an accountant
Negligence - an accountant is liable to a client who can prove:
- the accountant breached his duty by failing to exercise the degree of skill and competence an ordinarily prudent accountant would under the circumstances
- the accountant’s violation of duty caused foreseeable harm to the client
Accountants are liable to their clients for fraud if:
- They make a false statement of a material fact
- They either know it is not true or recklessly disregard the truth
- The client justifiably relies on the statement
- The reliance results in damages
Breach of trust - accountants have a legal obligation to:
- Keep all client information confidential
- Use client information only for the benefit of the client
What is a fiduciary relationship?
One party has an obligation to:
1. Act in a trustworthy fashion for the benefit of the other person
2. To put that person’s interests first
Negligence - What is the Ultramares Doctrine?
Accountants who fail to exercise care are liable to a third party only if they know that the third party:
1. Will see their work product
2. Will rely on the work product for a particular, known purpose
Accountants must know the identity of the 3rd party to be liable
What is the foreseeable doctrine?
Courts have held that accountants are liable to any foreseeable users who suffer harm as a result of their carelessness
Court has held that an accountant who fails to exercise due care is liable to a third party if:
1. It was foreseeable that the third party would receive financial statements from the accountant’s client
The third party relied on these statements
What is the restatement doctrine?
Accountants who fail to exercise due care are liable to:
1. Anyone they knew would rely on the information
2. Anyone else in the same class
What is fraud?
An accountant who commits fraud is liable to any foreseeable user of the world product who justifiably relied on it
What is liability for qualified opinions?
To avoid liability, the less than clean opinion must be issued for the right reasons
What is the Securities Act of 1933?
Auditors are liable for any material misstatement or omission in the financial statements that they prepare for a registration statement
What is due diligence?
An investigation of a registration document
What is the Securities Exchange Act of 1934?
An auditor who makes a false or misleading statement in a required filing is liable to any buyer or seller of the stock who has acted in reliance upon the statement
What is fraud under the Securities Exchange Act of 1934?
An auditor is liable for making:
1. A misstatement or omission of material fact
2. Knowingly or recklessly with the intent to deceive, manipulate, or defraud
3. That the plaintiff relies on in purchasing or selling a security
What is scienter?
An action is done knowingly or recklessly with an intent to deceive, manipulate, or defraud
What is aiding and abetting?
The SEC has the right to sue anyone who aids and abets others in making untrue statements in connection with the purchase or sale of a security
Whistleblowing under the SEC
If the board fails to take appropriate action, the auditors must issue an official report to the board
If the board receives such a report from its auditors, it must notify the SEC within one business day and send a copy of this notice to the auditors
If the auditors do not receive this copy, they must notify the SEC themselves
What is joint and several liability?
All members of a group are liable
They can be sued as a group, or any of them can be sued individually for the full amount owing
The plaintiff may not recover more than 100% of damages
What is criminal liability?
The penalty for a civil offense is the payment of monetary damages
Some offenses are criminal acts for which the punishment is a fine and imprisonment
What is the Accountant-Client Relationship?
An auditor and her family must not maintain a financial or business relationship with a client
What is Accountant-Client privilege?
Provides limited protection for confidential communications between accountants and clients
What are working papers?
Accountants use the client’s documents and also prepare working papers of their own
The accountant:
1. Cannot show the working papers to anyone without the client’s permission or a court order
2. Must allow the client access to the working papers
