For each of the following independent situations involving non-public companies, assume that you are the audit partner on the engagement. Identify the appropriate type of audit report that should be issued and why. Give the professional standard citation. Assume that all companies are private companies and that each item is material unless indicated otherwise. (AU-C 700-708, 570, 600)
1. Red Raider Technology is suing your client, Buff Software, for royalties over patent infringement. Buff’s outside legal counsel assures you that Red Raider’s case is completely without merit. Standard, unmodified audit report
2. Bakers-R-Us.com is an Internet based start-up company created to sell baking products online. Although the company had a promising start, a downturn in e-commerce retailing has negatively affected the company. The company’s cash and sales positions have deteriorated significantly, and you have substantial doubt about the ability of the company to continue in operation for the next year. The financial statements provide adequate disclosure about the entity’s questionable ability to continue as a going concern.
3. Your client, Bob’s Equipment Sales, justifiably changed the service lives for depreciation purposes on its autos from five to three years. This change resulted in a material amount of additional depreciation expense. The facts are adequately disclosed in the footnotes.
4. Buffalo Oil Corporation, a wholly owned subsidiary of Aggie, Inc., is audited by another CPA firm. As the auditor of Aggie, Inc., you have assured yourself of the other CPA firm’s independence and professional reputation. However, you are unwilling to take complete responsibility for its audit work.
5. During your audit of Panhandle Sales Inc., the controller, Les Cheatum will not allow you to confirm the receivable balance from two of its major customers. The amounts of the receivables are material in relation to the financial statements. You are unable to satisfy yourself as to the receivable balances by alternative procedures and you are concerned about Mr. Cheatum’s motives.
Case 1.1 Enron Corporation (the high profile disaster that changed the face of auditing!)
Watch the video Bigger Than Enron. Use this address to access the site outside of WTClass: https://www.youtube.com/watch?v=TCpZUDIquQw
Read ENRON Ten Years Later: Lessons to Remember, CPA Journal, in Unit 1 Course Materials.
PCAOB Standards: AS 1000-1015, 1105, 1201, 2101, 3101, etc.
1. Did Andersen’s involvement in Enron’s accounting and financial reporting decisions (see Powers Report excerpt) violate any professional auditing standards? List those standards and why you believe they were violated. Keep in mind some standards have changed because of the Enron debacle.
2. List three recommendations put forth to strengthen the auditing profession after the Enron mess. Give your opinion as to whether you are for or against each one listed. Were these recommendations ultimately adopted?
3. Do you believe there could be another Enron-type audit failure in the future? Explain.
Case 1.10 DHB Industries, Inc.
PCAOB Standards: AS 1105, 2610
1. During the 2004 DHB audit, the company’s independent auditors had considerable difficulty obtaining reliable audit evidence regarding the $7 million of obsolete vest components that allegedly had been destroyed by a hurricane. What responsibility do auditors have when the client cannot provide the evidence they need to complete one or more audit tests or procedures? Cite specific relevant standards.
2. DHB had four different audit firms in four years. What potential consequences do frequent changes in auditors have for the quality of a company’s independent audits? Identify professional standards relevant to auditor changes. Unlike this case, auditor rotation may be considered a good thing. Discuss the positive aspects of auditor rotation.
Case 1.11 New Century Financial Corporation
PCAOB Standards: AS 2501, 1110, QC 20
1. Did the KPMG auditors violate any professional auditing standards? Indicate which ones and explain how each was violated.
2. New Century estimated the ending balance of one of its most critical accounts, loan repurchase loss reserve, each accounting period. What should auditors consider and what procedures should they follow when auditing key accounting estimates?
3. Did the turnover of audit staff on the New Century engagement affect the audit? Given the PCAOB Quality Control Standards, what should audit firms do to make sure audit quality is not compromised by staff turnover?
4. What are the 3 most important things you learned from this case?