auditing

Reflective choice

Consequences of decisions

Moral principles

Definitive conclusion

Ethic decisions cannot be resolved without evaluating all possible outcomes of all choices.

It is essential that decisions be made for the greater good of society.

All ethical decisions will have positive and negative consequences.

Ethics are a function of moral rules and principles.

Moral principle

Utilitarianism principle

Generalization principle

Imperative principle

SEC

AICPA

Congress

Department of Justice

Establish minimal ethical standards for financial reporting.

Make and enforce all the rules of conduct for CPAs who are AICPA members.

Enforce SEC ethical standards.

Act as an investigative body of the AICPA when ethical violations are suspected.

Objectivity

Due Care

Reliability

Responsibilitie

Ben, a partner in Dara & Company, with an office in Buffalo Grove

Julie, a partner in Dara & Company, with an office in Elmhurst

Jason, who is a member of the attest engagement team with an office in Elmhurst

Adam, who is a tax partner and provided 50 hours of tax service to Hill Company during the year of the audit with an office in Elmhurst

Not subordinate judgment to others

Free of conflict of interests

Not knowingly misrepresent facts

Prudent assessment of facts

The CPA firm's quality control partner

The audit committee

The client's senior management

The CPA firm's engagement partner

Case-by-case basis: Yes; Through established policies: No; Delegating the responsibility: Yes

Case-by-case basis: No; Through established policies: Yes; Delegating the responsibility: No

Case-by-case basis: Yes; Through established policies: Yes; Delegating the responsibility: No

Case-by-case basis: No; Through established policies: No; Delegating the responsibility: Yes

Limits other partners associated with the engagement to a seven-year term.

Partners that engage in selling services, other than audit, review, and attestation services, to an audit client are not independent with respect to that client.

Limits engagement partners to a five-year term as the engagement partner.

Engagement partners must review nonaudit work to insure that independence has not been compromised.

Nonaudit services are allowed providing the audit organization does not perform management functions, make management decisions, or audit its own work.

Nonaudit services are allowed as long as the nature of the service is publicly disclosed including a statement that independence has not been compromised.

Nonaudit services cannot be provided to a government entity that is an attest client.

Nonaudit services are allowed if they have been approved by the executive body of the governing organization.

CPAs that perform nonaudit services are prohibited from being a member of the audit team.

The audit organization must never reduce the scope of the audit because of nonaudit services performed.

The government entity must have established policies to assure the nonaudit services will not affect the audit firm's ability to perform the audit.

Personnel who provide nonaudit services are prohibited from planning, conducting or reviewing audit work related to the nonaudit service.

Sufficient relevant data

Independence

Due professional care

Planning and supervision

accept the engagement with the understanding that additional hours will be required for Maralee to learn and understand the nature of the business.

not accept the engagement because she does not have the specialized industry knowledge.

recommend another auditor and receive a fee for the referral.

accept the engagement if she can obtain the required knowledge before the end of the engagement.

the client disclose the controller's relationship in the notes to the financial statements.

the new controller sever all relations with the CPA firm, including any retirement funds.

the client find a new audit firm.

the new controller not take part in any discussions regarding the retention of the audit form.

client directors and financial statement users should consider all aspects related to auditors' independence, and information about fees is important.

such disclosures will end the practice of auditors performing nonaudit services for audit clients.

financial analysts will attribute far less credibility to financial statements audited by public accounting firms that earn substantial nonaudit fees from audit clients.

audit firm consulting on client's accounting information processing systems essentially impairs audit independence.

Ward's fellow partner CPA Felix in the Omaha office has a wife who owns Dodger stock through a mutual fund held in her own employer's employee benefit plan.

Krogstad owns Dodger common stock.

Krogstad's brother owns 10 shares of Dodger common stock.

Ward's sister-in-law is a sales representative with a territory in California.

Generalization principle

Virtue ethics

Utilitarianism

Imperative principle

independence is impaired in all of these situations.

Lisa is the Controller.

Lisa is the marketing manager.

Lisa owns 25% of the company.

Independence, Integrity, and Objectivity

Responsibilities to Clients

General and Technical Standards

Responsibilities to Colleagues

be a trustee of a client pension or profit sharing trust.

have loans from a client that are collateralized by cash deposits held by the client.

hold a material indirect interest in a client.

have home mortgages with a client even if they are on the engagement.

Governmental Accounting Standards Board.

Opinions of the Accounting Principles Board.

Auditing Procedures Board.

Financial Accounting Standards Board.

failure to follow government audit standards in government audits.

withholding a client's books until a professional fee is paid.

permitting others to make misleading entries in records.

membership in an activist political party.

adherence to a pronouncement would be misleading.

pending legislation may change the reporting requirements of the client.

complying would violate client confidentiality.

it has been established that financial statement users prefer an alternative presentation of information.

the Federal Trade Commission.

the U.S. Department of Justice.

the SEC.

the AICPA Professional Ethics Division.

an indirect financial interest in Darby.

no financial interest in Darby.

a partial financial interest in Darby.

a direct financial interest in Darby.

cannot be considered confidential unless it can be covered by the attorney-client privilege.

is confidential and will only be disclosed under subpoena or for a regulatory investigation.

cannot be considered confidential if it is necessary to the completeness of the financial statements.

should be discussed with the audit committee to determine if the information should be disclosed.

Virtue ethics

Utilitarianism

Generalization principle

Imperative principle

Limited liability partnership; all partners are CPAs

Partnership; 40% of partners are CPAs

Limited liability corporation; all shareholders are CPAs

Limited liability partnership; 70% of partners are CPAs

Public accounting firms cannot be both the internal and external auditors for publicly-held companies and maintain independence.

The independence of Red and Green is impaired only if employees of Red and Green act in a management capacity or make management decisions.

The independence of Red and Green is impaired only if a member of Red and Green's engagement team is hired to manage an accounting function in Blue Corporation.

Doing internal audit work does not impair the independence of Red and Green.

A Visa credit card issued by Big Bank with a balance of $2,500

A home loan with the value of the house exceeding the mortgage balance

A personal loan collateralized by cash deposits at Big Bank

A car loan collateralized by the car

The client is the only tenant in a commercial building owned by the auditor.

The auditor is the officially appointed stock transfer agent of a client.

The client owes the auditor fees for more than two years prior to the issuance of the audit report.

The auditor's checking account that is fully insured by a federal agency is held at a client financial institution.

All owners must be members.

The firm must be a dues-paying member.

At least one of the owners must be a member.

The owners whose names appear in the firm name must be members.

The CPA reduced XZ's usual audit fee by 40% prior to the audit because XZ's financial condition was unfavorable.

The CPA has an automobile loan from XZ, a financial institution. The loan is collateralized by the automobile.

The CPA and XZ's president each own 25% of FOB Corporation, a closely held company.

The CPA and XZ's president are both on the Board of Directors of COD Corporation.

Accepting a commission for recommending a product to an audit client

Accepting engagements obtained through the efforts of third parties

Purchasing a product from a third party and reselling it to a client

Writing a financial management newsletter promoted and sold by a by a publishing company

Accepting a contingent fee for representing a client in an examination of the client's federal tax return by an IRS agent

Retaining client records after an engagement is terminated prior to completion and the client has demanded their return

Issuing a modified report explaining a failure to follow a governmental regulatory agency's standards when conducting an attest service for a client

Revealing confidential client information during a quality review of a professional practice by a team from the state CPA society

"Bob Bullet, CEO of A-One Corp., states that we are the best auditors his company has ever used."

"We have several tax partners that work closely with Judges and IRS attorneys on high-profile legal issues."

"We audit the five largest manufacturing companies in the state."

"We provide the best audit coverage of any firm in the state."

Another CPA firm considering the purchase of the auditing firm

Another CPA firm performing a peer review

The FASB

The IRS

ordinary negligence.

due care.

good faith.

regulatory providence.

client's constructive negligence.

auditors' gross negligence.

auditors' ordinary negligence.

client's contributory negligence.

failed to exercise the appropriate level of professional care.

knew of the instances of fraud.

acted recklessly or with lack of reasonable grounds for belief.

demonstrated gross negligence.

Auditors are strictly liable for failures to discover client fraud.

Auditors are not liable unless they commit gross negligence or intentionally disregard generally accepted auditing standards.

Auditors must exercise the level of care, skill, and judgment expected of a reasonably prudent auditor under the circumstances.

Auditors must plan the audit to gather sufficient competent evidence to guarantee the accuracy of the financial statements.

Kerry is likely liable to third parties even if the third parties were aware of the fraud and did not rely on the opinion.

Kerry is liable only to third parties in privity of contract.

Kerry is likely liable to any person who suffered a loss as a result of the fraud.

Kerry is liable only to known users of the financial statements.

there was fraudulent activity by Hart.

Mays relied on Hart's opinion.

Mays was in privity with Hart.

the financial statements contained a material misstatement.

auditors knew the financial statements contained a material misstatement.

the financial statements contained a material misstatement.

he or she relied on the financial statements.

he or she was damaged or suffered a loss.

constructive fraud.

privity.

ordinary negligence.

breach of contract.

constructive fraud.

gross negligence.

ordinary negligence.

breach of contract.

it was a foreseeable party.

it was a foreseen party.

it was a primary beneficiary.

it was in privity of the contract.

it was in privity of the contract.

it was a foreseeable party.

it was a foreseen party.

it was a primary beneficiary.

it was in privity of the contract.

it was a foreseeable party.

it was a foreseen party.

it was a primary beneficiary.

foreseeable third party.

prime benefactor.

primary beneficiary.

party to the contract.

the shareholders did not rely properly on the financial statements.

the shareholders failed to prove lack of appropriate professional care on the part of auditors.

the shareholders did not suffer a loss.

the shareholders were not primary beneficiaries of the audit engagement and they have no standing to sue.

Issuing an unqualified auditors' opinion when evidence suggests that the financial statements were not prepared according to generally accepted accounting principles

Reckless disregard of evidence that the financial statements do not conform to generally accepted accounting principles

Failure to investigate possible fraud when other entities in the industry have experienced frauds

Gross negligence amounting to constructive fraud

The memo is only a courtesy and does not alter the terms of the engagement letter or change the nature of Ladd Corporation's standing to sue.

The memo is an amendment to the engagement letter and makes Ladd Corporation a primary beneficiary of the audited financial statements.

The memo may move Ladd Corporation closer to a primary beneficiary and reposition them as third party with a standing to sue, depending on the jurisdiction of any future lawsuits.

The memo is an additional contract placing Ladd in privity of contract.

the plaintiffs purchased the specific securities through a public offering and thus have a right to sue.

the financial statements in the offering registration filing contained a material misstatement.

auditors were guilty of ordinary negligence and failed to discover material misstatements in the financial statements.

auditors were aware of material misstatements in the financial statements.

Third parties that auditors should have foreseen could rely on the client's financial statements

Third parties whose reliance on the client's financial statements was reasonably foreseeable

Purchasers and sellers of securities under the Securities Exchange Act of 1934

The auditors' client

auditors cannot collect audit fees owed to them by the client.

auditors are sued by a third party.

auditors fail to conduct the examination in accordance with generally accepted auditing standards, which results in the failure to identify material misstatements in the financial statements.

a client goes bankrupt or has serious financial difficulty.

breach of contract.

they were damaged or suffered an economic loss.

reliance on the financial statements

the financial statements were direct cause of loss.

the plaintiff was foreseen

the plaintiff contributed to the failure to detect material misstatements.

the financial statements were not materially misstated.

the audit was conducted in accordance with generally accepted auditing standards.

regulates the accounting profession.

regulates trading in securities.

approves and guarantees investments.

regulates the initial issuance of securities.

Purchasers would need to demonstrate all of these.

The client's financial statements contained a material misstatement.

Third-party purchasers suffered a loss.

Auditors were aware of the materially misstated financial statements.

fraud in the purchase or sale of securities.

the use of the "due diligence" defense to avoid liability.

penalties for willfully and knowingly violating the Securities Exchange Act of 1934.

integrated disclosure system for annual reports.

Ernst & Ernst v. Hochfelder.

United States v. Benjamin.

Escott v. BarChris Construction Corp.

Rusch Factors v. Levin.

those third parties who have a direct relationship with auditors through previous contract related to the audit engagement.

those third parties whose decisions normally rely on audited financial statements and opinions on those financial statements.

those third parties who will rely on the audit and are specifically known by auditors.

management of the entity.

The plaintiff need not prove that the materially misstated financial statements are the direct cause of the loss.

Any purchaser of securities may sue auditors.

The plaintiff must prove they read and relied upon the financial statements.

The plaintiff must prove damages or an economic loss.

all users of financial statements.

primary beneficiaries.

foreseen third parties.

foreseeable third parties.

The full amount of damages may be recovered from any defendants involved in the action.

A solvent defendant's liability may be increased by 50 percent if other defendants are insolvent.

Defendants who knowingly committed a violation of securities laws remain jointly and severally liable.

The total responsibility for loss is divided among all parties responsible for the loss.

Abdul Company

Simon Whitaker, a private investor who is considering acquiring Abdul Company

First State Bank, a bank with whom Abdul Company has not previously done business

Purchasers of Abdul Company's securities in an initial public offering

The jurisdiction in which the action occurred

The relationship between the auditors and third party

The nature of activity by auditors that resulted in their failure to exercise appropriate levels of professional care

The extent to which the third party relied upon the misstated financial statements and this reliance resulted in their loss

5 years.

3 years.

2 years.

7 years.

This case concluded that auditors' liability to third parties would be generally limited to gross negligence or fraud.

This case established the rights of third parties to bring suits against auditors under common law liability.

This case provided a test to determine whether a third party qualified as a primary beneficiary and could bring suit for ordinary negligence.

This case was brought under common law liability.

bases the action upon fraud.

is the auditors' client.

can prove gross negligence by auditors that amounts to a reckless disregard for the truth.

is the client's creditor who sues auditors for ordinary negligence.

unless the purchaser can prove scienter on the part of auditors.

unless the purchaser can prove privity with auditors.

if auditors can show contributory negligence on the part of the purchaser.

if auditors can demonstrate due diligence.

Reliance on financial statements: Yes; Fraud by auditors: No

Reliance on financial statements: Yes; Fraud by auditors: Yes

Reliance on financial statements: No; Fraud by auditors: Yes

Reliance on financial statements: No; Fraud by auditors: No

Neither I nor II.

Both I and II.

II only.

I only.

Larson will not be liable if the purchaser did not rely on the financial statements.

The purchaser must prove that Larson knew of the material misstatements.

Larson will not be liable if it had reasonable grounds to believe the financial statements were accurate.

The purchaser must prove that Larson failed to conduct the audit in accordance with generally accepted auditing standards.

identity of the purchaser was not known to Larson at the time of the audit.

audit was conducted in accordance with generally accepted auditing standards.

client was aware of the misstatements.

purchaser was not in privity of contract with Larson.

The shareholders relied upon the materially misstated financial statements.

Wallace was in privity with the shareholders.

The reliance on the materially misstated financial statements caused the shareholders' losses.

Wallace acted with gross negligence in his audit.

acted with scienter.

failed to exercise the appropriate level of professional care.

demonstrated gross negligence.

knew of the irregularities.

Actions that demonstrated scienter

Gross negligence in conducting the engagement

Failure to perform the engagement in accordance with the terms in the engagement letter

Ordinary negligence in conducting the engagement

Auditors' intent to deceive: No; Plaintiff's reliance on the registration statement: No

Auditors' intent to deceive: No; Plaintiff's reliance on the registration statement: Yes

Auditors' intent to deceive: Yes; Plaintiff's reliance on the registration statement: No

Auditors' intent to deceive: Yes; Plaintiff's reliance on the registration statement: Yes

A disclaimer contained in the engagement letter

Lack of privity

Lack of scienter

Contributory negligence on the part of the client

without good faith.

with ordinary negligence.

without due diligence.

with independence.

Purchasers have to prove either fraud or gross negligence as a basis for recovery.

Purchasers only have to prove loss caused by reliance on audited financial statements.

Privity with purchasers is not a necessary element of proof.

Auditors are held to a standard of care described as professional skepticism.

Verdicts in state courts are normally more appropriate to apply to multiple jurisdictions than verdicts in federal courts.

State courts may discriminate against defendants from other jurisdictions.

Federal courts have more resources at their disposal for managing class action lawsuits.

Federal courts provide a higher level of scrutiny for class action lawsuits than state courts.

Causation

Prudent auditor

Due diligence

Contributory negligence

Third parties did not rely upon the financial statements

The loss was caused by factors other than the materially misstated financial statements

Lack of proper standing (relationship) to bring suit in that jurisdiction

Lack of a privity relationship with auditors