Lecture 9 Flashcards
What are the four main types of auditor duties?
Statutory Duties: Defined by law (e.g., Companies Act 2006).
Common Law Duties: Established through court cases, focusing on reasonable skill and care.
Professional Standards: Following auditing guidelines like ISAs.
Regulatory Requirements: Oversight from bodies like the FRC and PCAOB.
What are the statutory duties of auditors under the Companies Act 2006?
Ensure financial statements give a true and fair view.
Confirm compliance with applicable accounting frameworks (IAS or UK GAAP).
Verify the consistency of directors’ and strategic reports with financial statements.
Report on directors’ remuneration (for quoted companies).
What are the two types of auditor liability?
Criminal Liability: Arises from breaches like knowingly signing false reports (Theft Act 1968, Fraud Act 2006).
Civil Liability: Covers negligence or breaches of common law duties, leading to financial loss.
What must a plaintiff prove to claim civil damages for auditor negligence?
The auditor owed a duty of care.
The auditor was negligent.
The plaintiff suffered a loss due to the auditor’s negligence.
How is ‘duty of care’ determined for auditors?
Auditors must perform their duties with reasonable skill and care appropriate to the circumstances.
Courts decide if due care was exercised, often using hindsight and professional standards as a reference.
What famous phrase describes the auditor’s role in due care cases?
“Auditor is a watchdog, not a bloodhound.”
Auditors verify financial statements but are not investigators unless red flags are evident.
What was significant about Kingston Cotton Mill (1896)?
Established that auditors must exercise reasonable skill, care, and caution.
Emphasized that what is reasonable depends on the specific circumstances.
What was decided in London Oil Storage Co Ltd (1904)?
Auditors are required to go beyond books/records and verify assets (e.g., physical cash).
Marked the first time courts emphasized evidence verification.
What challenges arise in determining auditor liability to third parties?
Third parties (e.g., investors, lenders) often rely on audited financial statements without direct contractual relationships.
Liability depends on proximity, foreseeability, and fairness.
What principle was established in Hedley Byrne v Heller (1963)?
Auditors owe a duty of care to third parties if a special relationship exists.
The provider of information must know the third party will rely on the information for specific purposes.
What is the three-part test from Caparo Industries v Dickman (1990)?
Foreseeability: Could the loss reasonably be foreseen?
Proximity: Was there a close relationship between the parties?
Fairness: Is it fair, just, and reasonable to impose liability?
How did the Caparo case change auditor liability?
Limited duty of care to shareholders as a body, not individual investors or potential investors.
Overturned earlier cases that widened liability to broader third parties.
What is the significance of the Bannerman paragraph?
Disclaims auditor responsibility for reliance on financial statements by unintended third parties.
Resulted from cases like Royal Bank of Scotland v Bannerman (2002–2005).
What defenses can auditors use against negligence claims?
Compliance with Standards: Evidence of following ISAs and professional guidelines.
Engagement Letter: Defines the scope of work and limits expectations.
Independence and Ethical Conduct: Demonstrating impartiality.
Internal Quality Controls: Supervision and documentation of the audit process.
Professional Indemnity Insurance: Mitigates financial risks.
Why do auditors often settle out of court?
To minimize costs, time, and reputational damage.
Insurers encourage settlements even if auditors believe they could win.
Downsides include rising insurance premiums and lack of legal clarity.
