Final Exam 1-8

Which of the following is NOT one of the four stages in an audit-related dispute?

A. Auditors legal liability leads to financial settlement

12. Bobek et al. found that nonpartners are more likely to perceive the ethical environment of their firm as strong when they: A. Believe they have a meaningful role in shaping and maintaining the ethical environment of their firms Believe ethical leaders consider their interests in firm decision making Are included in firm decision making Have a high frequency of receiving mentoring

A. Believe they have a meaningful role in shaping and maintaining the ethical environment of their firms

6. The best explanation why the fraud at Tyco was not discovered and acted on is: Failure of the corporate governance system External auditors told management to let the fraud go Tyco management hid the fraud from the auditors The fraud was not material

A. Failure of the corporate governance system

8. Organizational dissidence in audit firms is created when: Client interests are placed ahead of the public interest Firm interests are placed ahead of the public interest C. Individual values do not fit into expectations of the firm Individual values lead to firms changing their values to achieve greater socialization

C. Individual values do not fit into expectations of the firm

4. Which of the following is not part of the fraud triangle? Incentives Opportunity Materiality Rationalization

C. Materiality

2. One of the rules of professional conduct and repeated in GAAS, due care, requires a member to discharge professional responsibilities with _____________. A. Confidentiality and integrity B. Objectivity and ethics C. Standard morals and ethics D. Competence and diligence

D

4. [The following information applies to the questions displayed below.] Yes. Cheating occurs at the prestigious Harvard University. In 2012, Harvard forced dozens of students to leave in its largest cheating scandal in memory, but the institution would not address assertions that the blame rested partly with a professor and his teaching assistants. The issue is whether cheating is truly cheating when students collaborate with each other to find the right answer—in a take-home final exam. Harvard released the results of its investigation into the controversy, in which 125 undergraduates were alleged to have cheated on an exam in May 2012. The university said that more than half of the students were forced to withdraw, a penalty that typically lasts from two to four semesters. Many returned by 2015. Of the remaining cases, about half were put on disciplinary probation—a strong warning that becomes part of a student's official record. The rest of the students avoided punishment. In previous years, students thought of Government 1310 as an easy class with optional attendance and frequent collaboration. But students who took it in spring 2012 said that it had suddenly become quite difficult, with tests that were hard to comprehend, so they sought help from the graduate teaching assistants who ran the class discussion groups, graded assignments, and advised them on interpreting exam questions. Administrators said that on final-exam questions, some students supplied identical answers (right down to typographical errors in some cases), indicating that they had written them together or plagiarized them. But some students claimed that the similarities in their answers were due to sharing notes or sitting in on sessions with the same teaching assistants. The instructions on the take-home exam explicitly prohibited collaboration, but many students said they did not think that included talking with teaching assistants. The first page of the exam contained these instructions: "The exam is completely open book, open note, open Internet, etc. However, in all other regards, this should fall under similar guidelines that apply to in-class exams. More specifically, students may not discuss the exam with others—this includes resident tutors, writing centers, etc." Students complained about confusing questions on the final exam. Due to "some good questions" from students, the instructor clarified three exam questions by email before the due date of the exams. Students claim to have believed that collaboration was allowed in the course. The course's instructor and the teaching assistants sometimes encouraged collaboration, in fact. The teaching assistants—graduate students who graded the exams and ran weekly discussion sessions—varied widely in how they prepared students for the exams, so it was common for students in different sections to share lecture notes and reading materials. During the final exam, some teaching assistants even worked with students to define unfamiliar terms and help them figure out exactly what certain test questions were asking. Some have questioned whether it is the test's design, rather than the students' conduct, that should be criticized. Others place the blame on the teaching assistants who opened the door to collaboration outside of class by their own behavior in helping students to understand the questions better. Harvard adopted an honor code on May 6, 2014. In May 2017, Harvard announced that more than 60 students enrolled in Computer Science 50 (CS50): Introduction to Computer Science I appeared before the College's Honor Council investigating cases of academic dishonesty. While the facts have been kept confidential so far, a statement on the course website establishes standards for behavior: "The course recognizes that interactions with classmates and others can facilitate mastery of the course's material, [but] there remains a line between enlisting the help of another and submitting the work of another." The site provides some guidance: Acts of collaboration that are reasonable include sharing a few lines of code. Acts not reasonable include soliciting solutions to homework problems online. CS50 introduced a "regret clause," allowing students who commit "unreasonable" acts to face only course-specific penalties [not institutional] if they report the violation within 72 hours. The students were most likely operating under which moral philosophy? A. Deontology or equal respect to all persons B. Hobbes and Locke's theories of rights C. Rawls' theory of justice D. A subset of teleology

D. A subset of teleology

1. Research Triangle Software Innovations is a software solutions company specializing in enterprise resource planning (ERP) business management software. Located in the Research Triangle Park, North Carolina, high-tech area, Research Triangle Software Innovations is a leader in ERP software. Oak Manufacturing is located in Raleigh, North Carolina. Oak is a publicly owned company that produces oak barrels for flavoring and storage of wine products. As the largest company of its kind in the Southeast, Oak Manufacturing serves all 50 states and other parts of North America. Tar & Heel, LLP, is a mid-sized professional services firm in Durham, North Carolina. It provides audit, assurance, and advisory services to clients, many of whom are in the Research Triangle area. The firm audits the financial statements of Oak Manufacturing and was just contacted by the client to assist in selecting and implementing an ERP system so the company can improve its collection, storage, management, and interpretation of data from a variety of business activities. Steve Michaels is Tar & Heel's advisory manager in charge of the Oak Manufacturing engagement. He is reviewing the criteria used for software selection as follows: Alignment with client's needs Operations integration Software reliability Vendor support Scalability for growth Pricing Everything seems in order for the criteria. However, Steve is concerned about the selection of the ERP software of Research Triangle Software Innovations, for one, because Research Triangle is also an audit client of the firm. Given that Research Triangle is the major client in the Durham office, Steve worries about perceptions if the firm selects its client's software product. Moreover, he knows his firm's partnership is pushing for sales of its own software and this might be an occasion to do so. Steve calls Rosanne Field into his office to discuss her selection. This is Rosanne's first job as the lead advisory staff member on a software selection decision. She has great credentials having graduated with a bachelor's degree from the University of North Carolina, a masters from North Carolina State, and a computer science doctorate from Duke University. She has five years of experience in advisory services and has received glowing evaluations. Rosanne explains that there were four ERP software products that made it to the "final four," including the firm's own product. The others were Research Triangle Software Innovations, Longhorn Software Systems in Austin, Texas, and Tex-Mex Software in El Paso, Texas. Steve asks Rosanne to explain why Research Triangle Innovations was selected over the firm's own package. She goes through the ranking of the criteria. It seems the total score for Research Triangle's software was slightly below that of Longhorn Software but significantly above Tex-Mex. Rosanne told Steve she never considered the firm's own package. Her selection of Longhorn Software was overturned by Gary Booth, the senior on the job, ostensibly because Gary saw it as an opportunity to gain additional services for the firm by making the client -- Research Triangle -- happy and earning a feather in his cap by bringing in additional revenue. Steve is unhappy with what he has learned so he calls for a meeting with Rosanne and Gary later in the week. Put yourself in Rosanne's position and consider the following in developing a game plan for what you will say at the meeting and then answer the questions that follow. What is at stake for the key parties, including the firm? What are the likely positions of Steve and Gary. What will you say to counteract those positions? Are there any levers you can use to get your point across? Explain. What is your most powerful and persuasive response to the reasons and rationalizations you need to address? Questions Describe the leadership style of Steve in this case. Assume Steve decides to support Gary's explanation for choosing the firm's own package. What will you do next? Have there been any violations of the AICPA Code of Professional Conduct in this case? Be specific. rev: 11_08_2019_QC_CS-184403 Who has the most at stake among the stakeholders in this case? A. Steve Michaels Rosanne Field Research Triangle Oak Manufacturing

A. Steve Michaels

9. [The following information applies to the questions displayed below.] Ed Giles and Susan Regas have never been happier than during the past four months since they have been seeing each other. Giles is a 35-year-old CPA and a partner in the medium-sized accounting firm of Saduga & Mihca. Regas is a 25-year-old senior accountant in the same firm. Although it is acceptable for peers to date, the firm does not permit two members of different ranks within the firm to do so. A partner should not date a senior in the firm any more than a senior should date a junior staff accountant. If such dating eventually leads to marriage, then one of the two must resign because of the conflicts of interest. Both Giles and Regas know the firm's policy on dating, and they have tried to be discreet about their relationship because they don't want to raise any suspicions. While most of the staff seem to know about Giles and Regas, it is not common knowledge among the partners that the two of them are dating. Perhaps that is why Regas was assigned to work on the audit of CAA Industries for a second year, even though Giles is the supervising partner on the engagement. As the audit progresses, it becomes clear to the junior staff members that Giles and Regas are spending personal time together during the workday. On one occasion, they were observed leaving for lunch together. Regas did not return to the client's office until three hours later. On another occasion, Regas seemed distracted from her work, and later that day, she received a dozen roses from Giles. A friend of Regas's who knew about the relationship, Ruth Revilo, became concerned when she happened to see the flowers and a card that accompanied them. The card was signed, "Love, Poochie." Regas had once told Revilo that it was the nickname that Regas gave to Giles. Revilo pulls Regas aside at the end of the day and says, "We have to talk." "What is it?" Regas asks. "I know the flowers are from Giles," Revilo says. "Are you crazy?" "It's none of your business," Regas responds. Revilo goes on to explain that others on the audit engagement team are aware of the relationship between the two. Revilo cautions Regas about jeopardizing her future with the firm by getting involved in a serious dating relationship with someone of a higher rank. Regas does not respond to this comment. Instead, she admits to being distracted lately because of an argument that she had with Giles. It all started when Regas had suggested to Giles that it might be best if they did not go out during the workweek because she was having a hard time getting to work on time. Giles was upset at the suggestion and called her ungrateful. He said, "I've put everything on the line for you. There's no turning back for me." She points out to Revilo that the flowers are Giles's way of saying he is sorry for some of the comments he had made about her. Regas promises to talk to Giles and thanks Revilo for her concern. That same day, Regas telephones Giles and tells him she wants to put aside her personal relationship with him until the CAA audit is complete in two weeks. She suggests that, at the end of the two-week period, they get together and thoroughly examine the possible implications of their continued relationship. Giles reluctantly agrees, but he conditions his acceptance on having a "farewell" dinner at their favorite restaurant. Regas agrees to the dinner. Giles and Regas have dinner that Saturday night. As luck would have it, the controller of CAA Industries, Mark Sax, is at the restaurant with his wife. Sax is startled when he sees Giles and Regas together. He wonders about the possible seriousness of their relationship, while reflecting on the recent progress billings of the accounting firm. Sax believes that the number of hours billed is out of line with work of a similar nature and the fee estimate. He had planned to discuss the matter with Herb Morris, the managing partner of the firm. He decides to call Morris on Monday morning. "Herb, you son of a gun, it's Mark Sax." "Mark. How goes the audit?" "That's why I'm calling," Sax responds. "Can we meet to discuss a few items?" "Sure," Morris replies. "Just name the time and place." "How about first thing tomorrow morning?" asks Sax. "I'll be in your office at 8:00 a.m.," says Morris. "Better make it at 7:00 a.m., Herb, before your auditors arrive." Sax and Morris meet to discuss Sax's concerns about seeing Giles and Regas at the restaurant and the possibility that their relationship is negatively affecting audit efficiency. Morris asks whether any other incidents have occurred to make him suspicious about the billings. Sax says that he is only aware of this one instance, although he sensed some apprehension on the part of Regas last week when they discussed why it was taking so long to get the audit recommendations for adjusting entries. Morris listens attentively until Sax finishes and then asks him to be patient while he sets up a meeting to discuss the situation with Giles. Morris promises to get back to Sax by the end of the week. Ethical and Professional Issues Giles and Regas have put themselves in a position where their work product may suffer as a result of their relationship. It appears that this already has occurred since Mark Sax, the controller of CAA Industries, has expressed his concerns to Herb Morris, the managing partner of the local office of the firm that the delay in audit completion and high level of billings may be due to distractions resulting from the relationship. The reliability of Giles and Regas seems to be questioned by Sax. An important ethical concern is the conflict of interest that Giles may have if, for example, he determines that Regas is not adequately carrying out her responsibilities. Giles could have a difficult time dealing with this situation in the same way that he would handle a situation that involved a staff member with whom his relationship is solely professional. Moreover, the audit manager is in a sensitive position because he or she may know of the relationship and hesitate to treat Regas the same way other staff members are treated because Giles is the manager's superior. A conflict of interest tends to cloud one's judgment as to what is the right thing to do. It makes it more difficult for a supervisor to be impartial. Even the appearance of a conflict can harm the image of the professional. It has been said that the best way to handle a conflict of interest is not to become involved in one in the first place. This is why the codes of conduct of professional accounting associations preclude members from engaging in activities that can create such a conflict. The Principle of Objectivity in the AICPA Code requires that: A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. The ethical standard of Integrity in IMA Code states that: Management accountants have a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict. The firm's policy on dating seems to be appropriate. It is designed to avoid compromising client relations and audit efficiency. The profession sets high standards of conduct to guide its members in relationships with clients, suppliers, customers and others who can influence the decision-making process. These same high standards should be aspired to by all CPAs in dealing with members of their organization and other professionals. Giles and Regas are not acting in a professional manner. They seem to know this because in the last sentence of the first paragraph it states that they "have tried to be discreet about their relationship because they don't want to create any suspicions." If they truly felt comfortable with their relationship, then they would have nothing to hide. However, their actions violate firm policy and this is undoubtedly why they are being discreet. It appears from the facts of the case that Giles is more responsible than Regas for the tension on the CAA Industries audit. To begin with, he never should have allowed Regas to serve as the senior on the audit since he is the supervising partner on the engagement. Perhaps he allowed her to work on the audit because to do otherwise might have aroused suspicions about a possible relationship between the two of them. Giles also seems to have created stress for Regas by his inappropriate comment: "There's no turning back for me." This type of comment can only add to the pressure Regas feels, given that her work is scrutinized by Giles. The result may be to negatively affect audit efficiency. Although Regas' involvement in the relationship should not be dismissed, she does seem to recognize the dangers and ultimately makes a decision to put aside their relationship in the interests of completing the audit. Rather than simply honoring her request not to date for two weeks, Giles conditions his agreement on a "farewell" dinner. This is not a very caring and considerate thing to do and it demonstrates selfishness on the part of Giles. In fact, the dinner is the event that brings matters out in the open because Mark Sax now suspects that their relationship may be affecting completion of the audit. The direct involvement of the client puts the firm in a very difficult position, one that Herb Morris will have to deal with at the meeting with Giles. Ethical Analysis The decision to be made by Herb Morris can be analyzed using ethical reasoning. The stakeholders affected by Morris' decision include: Giles and Regas; the accounting firm; other staff members of the firm and its partners; CAA Industries and other clients that might be affected by the decision; and Mark Sax. Utilitarian Theory: From a utilitarian perspective, Morris should weigh the consequences of alternative courses of action. The alternatives and an evaluation of the potential benefits and harms of each course of action follow. Permit Giles and Regas to complete the audit, but ask one of them to resign thereafter. It is not practical to remove Giles or Regas from an audit that should be completed in about two weeks. The decision already has been made to put aside their relationship until the CAA audit is completed. This seems to be the best option from both the accounting firm's position and that of the client. All stakeholders seem to benefit from allowing Giles and Regas to fulfill their audit responsibilities under act utilitarianism. The second part of this option is more troubling in that it is difficult to determine who should be asked to resign. It is an issue of fairness and due care. On the surface it may appear that Regas should be asked to resign because of Giles' position in the firm. However, this may not be in the best interests of the firm and other clients who may be very satisfied with the work of Regas. These stakeholders could be harmed by a decision that leads to the resignation of a valued member of the firm, and one with excellent future prospects. While the facts of the case are silent on this issue, it is an important one for Morris to consider. Clearly, he should meet with the other partners before making a decision. Any decision to remove Giles from the partnership is likely to be an expensive one for the firm since it will have to buyout Giles' ownership interest. Permit Giles and Regas to complete the audit and allow both of them to continue with the firm. If both Giles and Regas are allowed to continue with the firm, then other staff members may start to wonder whether there are any consequences of violating firm policy. This is likely to be a particularly sensitive issue since some staff members on the CAA audit already suspect that the relationship is affecting the performance of Regas. Additionally, Mark Sax is aware of the situation and has expressed CAA's concern about the effect the relationship may be having on audit billings. On the other hand, Morris may believe that a warning is sufficient to protect the firm's interests and those of the client, especially since the firm's policy only requires one of the two to resign if marriage is eventually planned. It may be that the best option is to give them another chance but take measures to prevent them from serving together on any audits in the future. Rights Theory: From a rights approach, the most important issue is that of universality. That is, whatever decision is made by Morris should be one that he would want others in his position to take in similar situations for similar reasons. In other words, Morris may be establishing a firm policy on this issue and setting a tone for other staff members based on how he handles the dating relationship between Giles and Regas. Whichever option he chooses, it is important for Morris and the firm to realize that consistent action should follow when others are involved in similar situations. Another important element of the decision is that Regas may believe that her rights are violated if she is "forced" to resign or is terminated from employment with the accounting firm. This could be a particularly sensitive issue if her performance meets or exceeds all of the firm's standards for its senior staff members. If Regas believes she has been wrongly fired, she may seek legal recourse against the firm for its action. Justice Theory: There are many issues to consider from a justice perspective in evaluating the two alternative courses of action. First, if Morris does, in fact, establish a firm policy with his decision, as suggested above, then the new policy should treat all staff members fairly. For example, let's assume that Regas is fired because Giles is a partner with an ownership interest in the firm. Then, if another situation develops where a manager dates a senior, the employees involved and other staff members may expect that the senior will be fired regardless of that person's gender. Otherwise, some staff members may come to believe that the firm discriminates in enforcing its policy. Specifically, if the manager is a woman and the senior is a man, the justice theory requires that the man should be fired because he is of lower rank in the firm. The firm must also be sensitive to fact that this situation could turn into a sexual harassment matter. On the other hand, the fairer approach may be to terminate the employee who has contributed less to the firm's success in terms of performance and client service. Future potential also could be considered. For example, let's assume that the other partners dislike Giles because he is known to become involved in situations that compromise the firm's position. If Regas is a highly productive member of the firm who is well liked by the partners, other staff members and clients, then it could be that Regas should remain with the firm and Giles asked to resign. Another important issue related to justice is the reaction of other staff members to Morris' decision. If the other staff members believe that Regas is being signaled out as the scapegoat in this situation, then the morale of the staff may be negatively affected. The way that the decision is perceived by other staff members may directly affect their view of the fairness of the decision. This is particularly relevant in the case because Regas appears to be the one who has exercised proper judgment and Giles seems to be putting undue pressure on Regas and, perhaps, taking advantage of his position and influence in the firm. Other staff members may come to resent a decision that demonstrates favoritism toward Giles, regardless of the circumstances. When Morris meets with Giles he should be honest and candid regarding the position of the other partners. Morris should fully disclose the client's concerns and those of the firm, especially as it pertains to the possible higher level of billings and violation of firm policy. The way in which Giles reacts to the statements of Morris and his expression of concern for the firm's interests and those of the client may be an important consideration in Morris' decision. One factor that was previously mentioned and that should have a significant bearing on the firm's decision is the contribution of Giles and Regas to the welfare of the firm and its clients. Giles probably violated which of the IMA Standards? A. Competence B. Confidentiality C. Integrity D. Credibility

C. Integrity

12. Milton Manufacturing Company produces a variety of textiles for distribution to wholesale manufacturers of clothing products. The company's primary operations are located in Long Island City, New York, with branch factories and warehouses in several surrounding cities. Milton Manufacturing is a closely held company, and Irv Milton is the president. He started the business in 2008, and it grew in revenue from $500,000 to $5 million in 10 years. However, the revenues declined to $4.5 million in 2018. Net cash flows from all activities also were declining. The company was concerned because it planned to borrow $20 million from the credit markets in the fourth quarter of 2019. Irv Milton met with Ann Plotkin, the chief accounting officer (and also a CPA), on January 15, 2019, to discuss a proposal by Plotkin to control cash outflows. He was not overly concerned about the recent decline in net cash flows from operating activities because these amounts were expected to increase in 2019 as a result of projected higher levels of revenue and cash collections. However, that was not Plotkin's view. Plotkin knew that if overall negative capital expenditures continued to increase at the rate of 40 percent per year, Milton Manufacturing probably would not be able to borrow the $20 million. Therefore, she suggested establishing a new policy to be instituted on a temporary basis. Each plant's capital expenditures for 2019 for investing activities would be limited to the level of those capital expenditures in 2017, the last year of an overall positive cash flow. Operating activity cash flows had no such restrictions. Irv Milton pointedly asked Plotkin about the possible negative effects of such a policy, but in the end, he was convinced that it was necessary to initiate the policy immediately to stem the tide of increases in capital expenditures. A summary of cash flows appears in Exhibit 1. . EXHIBIT 1MILTON MANUFACTURING COMPANYSummary of Cash FlowsFor the Years Ended December 31, 2018 and 2017 (000 omitted) December 31, 2018December 31, 2017Cash Flows from Operating ActivitiesNet income $372 $542 Adjustments to reconcile net income to net cash provided by operating activities (2,350) (2,383) Net cash provided by operating activities $(1,978) $(1,841) Cash Flows from Investing ActivitiesCapital expenditures $(1,420) $(1,918) Other investing inflows (outflows) 176 84 Net cash used in investing activities $(1,244) $(1,834) Cash Flows from Financing ActivitiesNet cash provided (used in) financing activities $168 $1,476 Increase (decrease) in cash and cash equivalents $(3,054) $(2,199) Cash and cash equivalents—beginning of the year $3,191 $5,390 Cash and cash equivalents—end of the year $147 $3,191 Sammie Markowicz is the plant manager at the headquarters in Long Island City. He was informed of the new capital expenditure policy by Ira Sugofsky, the vice president for operations. Markowicz told Sugofsky that the new policy could negatively affect plant operations because certain machinery and equipment, essential to the production process, had been breaking down more frequently during the past two years. The problem was primarily with the motors. New and better models with more efficient motors had been developed by an overseas supplier. These were expected to be available by April 2019. Markowicz planned to order 1,000 of these new motors for the Long Island City operation, and he expected that other plant managers would do the same. Sugofsky told Markowicz to delay the acquisition of new motors for one year, after which time the restrictive capital expenditure policy would be lifted. Markowicz reluctantly agreed. Milton Manufacturing operated profitably during the first six months of 2019. Net cash inflows from operating activities exceeded outflows by $1,250,000 during this time period. It was the first time in two years that there was a positive cash flow from operating activities. Production operations accelerated during the third quarter as a result of increased demand for Milton's textiles. An aggressive advertising campaign initiated in late 2018 seemed to bear fruit for the company. Unfortunately, the increased level of production put pressure on the machines, and the degree of breakdown was increasing. A big problem was that the motors wore out prematurely. Markowicz was concerned about the machine breakdown and increasing delays in meeting customer demands for the shipment of the textile products. He met with the other branch plant managers, who complained bitterly to him about not being able to spend the money to acquire new motors. Markowicz was very sensitive to their needs. He informed them that the company's regular supplier had recently announced a 25 percent price increase for the motors. Other suppliers followed suit, and Markowicz saw no choice but to buy the motors from the overseas supplier. That supplier's price was lower, and the quality of the motors would significantly enhance the machines' operating efficiency. However, the company's restrictions on capital expenditures stood in the way of making the purchase. Markowicz approached Sugofsky and told him about the machine breakdowns and the concerns of other plant managers. Sugofsky seemed indifferent but reminded Markowicz of the capital expenditure restrictions in place and that the Long Island City plant was committed to keeping expenditures at the same level as it had in 2017. Markowicz argued that he was faced with an unusual situation and he had to act now. Sugofsky hurriedly left, but not before he said to Markowicz, "You and I may not agree with it, but a policy is a policy." Markowicz reflected on his obligations to Milton Manufacturing. He was conflicted because he viewed his primary responsibility and that of the other plant managers to ensure that the production process operated smoothly. The last thing the workers needed right now was a stoppage of production because of machine failure. At this time, Markowicz learned of a 30-day promotional price offered by the overseas supplier to gain new customers by lowering the price for all motors by 25 percent. Coupled with the 25 percent increase in price by the company's supplier, Markowicz knew he could save the company $1,500, or 50 percent of cost, on each motor purchased from the overseas supplier. After carefully considering the implications of his intended action, Markowicz contacted the other plant managers and informed them that while they were not obligated to follow his lead because of the capital expenditure policy, he planned to purchase 1,000 motors from the overseas supplier for the headquarters plant in Long Island City. Markowicz made the purchase at the beginning of the fourth quarter of 2019 without informing Sugofsky. He convinced the plant accountant to record the $1.5 million expenditure as an operating (not capital) expenditure because he knew that the higher level of operating cash inflows resulting from increased revenues would mask the effect of his expenditure. In fact, Markowicz was proud that he had "saved" the company $1.5 million, and he did what was necessary to ensure that the Long Island City plant continued to operate. The acquisitions by Markowicz and the other plant managers enabled the company to keep up with the growing demand for textiles, and the company finished the year with record high levels of profit and net cash inflows from all activities. Markowicz was lauded by his team for his leadership. The company successfully executed a loan agreement with Second Bankers Hours & Trust Co. The $20 million borrowed was received on October 3, 2019. During the course of an internal audit of the 2019 financial statements, Beverly Wald, the chief internal auditor (and also a CPA), discovered that there was an unusually high number of motors in inventory. A complete check of the inventory determined that $1 million worth of motors remained on hand. Wald reported her findings to Ann Plotkin, and together they went to see Irv Milton. After being informed of the situation, Milton called in Sugofsky. When Wald told him about her findings, Sugofsky's face turned beet red. He told Wald that he had instructed Markowicz not to make the purchase. He also inquired about the accounting since Wald had said it was wrong. Wald explained to Sugofsky that the $1 million should be accounted for as inventory, not as an operating cash outflow: "What we do in this case is transfer the motors out of inventory and into the machinery account once they are placed into operation because, according to the documentation, the motors added significant value to the asset." Sugofsky had a perplexed look on his face. Finally, Irv Milton took control of the accounting lesson by asking, "What's the difference? Isn't the main issue that Markowicz did not follow company policy?" The three officers in the room shook their heads simultaneously, perhaps in gratitude for being saved the additional lecturing. Milton then said he wanted Wald and Plotkin to discuss the alternatives on how best to deal with the Markowicz situation and present the choices to him in one week.Use the Integrated Ethical Decision-Making Process to guide you in answering the following: A. Kohlberg B. Rest C. Kidder D. Thorne

C. Kidder

4. [The following information applies to the questions displayed below.] Occupational fraud comes in many shapes and sizes. The fraud at Rite Aid is one such case. In February 2015, Findling pleaded guilty to charges of conspiracy to commit wire fraud. Foster pleaded guilty to making false statements to authorities. On November 16, 2016, Foster was sentenced to five years in prison and Findling, four years. Findling and Foster were ordered to jointly pay $8,034,183 in restitution. Findling also forfeited and turned over an additional $11.6 million to the government at the time he entered his guilty plea. In sentencing Foster, U.S. Middle District Judge John E. Jones III expressed his astonishment that in one instance at Rite-Aid headquarters, Foster took a multimillion dollar cash pay-off from Findling, then stuffed the money into a bag and flew home on Rite Aid's corporate jet. The charges relate to a nine-year conspiracy to defraud Rite Aid by lying to the company about the sale of surplus inventory to a company owned by Findling when it was sold to third parties for greater amounts. Findling would then kick back a portion of his profits to Foster. Foster's lawyer told Justice Jones that, even though they conned the company, the efforts of Foster and Findling still earned Rite Aid over $100 million "instead of having warehouses filled with unwanted merchandise." Assistant U.S. Attorney Kim Daniel focused on the abuse of trust by Foster and persistent lies to the feds. "The con didn't affect some faceless corporation, Daniel said, "but harmed Rite Aid's 89,000 employees and its stockholders." Findling's attorney, Kevin Buchan, characterized his client as "a good man who made a bad decision." "He succumbed to the pressure. That's why he did what he did and that's why he's here," Buchan said during sentencing. Findling admitted he established a bank account under the name "Rite Aid Salvage Liquidation" and used it to collect the payments from the real buyers of the surplus Rite Aid inventory. After the payments were received, Findling would Page send lesser amounts dictated by Foster to Rite Aid for the goods, thus inducing Rite Aid to believe the inventory had been purchased by J. Finn Industries, not the real buyers. The government alleged Findling received at least $127.7 million from the real buyers of the surplus inventory but, with Foster's help, only provided $98.6 million of that amount to Rite Aid, leaving Findling approximately $29.1 million in profits from the scheme. The government also alleged that Findling kicked back approximately $5.7 million of the $29.1 million to Foster. Assume you are the director of internal auditing at Rite Aid and discover the surplus inventory scheme. You know that Rite Aid has a comprehensive corporate governance system that complies with the requirements of Sarbanes-Oxley, and the company has a strong ethics foundation. Moreover, the internal controls are consistent with the COSO framework. Explain the steps you would take to determine whether you would blow the whistle on the scheme applying the requirements of AICPA Interpretation 102-4 that are depicted in Exhibit 3.11. In that regard, answer the following questions. A whistleblower is defined as a person who provides information to the _________ about a violation of the securities law. A. PCAOB B. Audit committee of the firm involved C. SEC D. External audit firm

C. SEC

5. Gregory and Alex started a small business based on a secret-recipe salad dressing that got rave reviews. Gregory runs the business end and makes all final operational decisions. Alex runs the creative side of the business. Alex's salad dressing was a jalapeno vinaigrette that went great with barbeque or burgers. He got many requests for the recipe and a local restaurant asked to use it as the house special, so Alex decided to bottle and market the dressing to the big box stores. Whole Foods and Trader Joe's carried the dressing; sales were increasing every month. As the business grew, Gregory and Alex hired Michael, a college friend and CPA, to be the CFO of the company. Michael's first suggestion was to do a five-year strategic plan with expanding product lines and taking the company public or selling it within five to seven years. Gregory and Alex weren't sure about wanting to go public and losing control, but expanding the product lines was appealing. Michael also wanted to contain costs and increase profit margins. At Alex's insistence, they called a meeting with Michael to discuss his plans. "Michael, we hired you to take care of the accounting and the financial details," Alex said. "We don't understand profit margins. On containing costs, the best ingredients must be used to ensure the quality of the dressing. We must meet all FDA requirements for food safety and containment of food borne bacteria, such as listeria or e. coli, as you develop cost systems." "Of course," Michael responded. "I will put processes in place to meet the FDA requirements." At the next quarterly meeting of the officers, Alex wanted an update on the FDA processes and the latest inspection. He was concerned whether Michael understood the importance of full compliance. "Michael," Alex said, "the FDA inspector and I had a discussion while he was here. He wanted to make sure I understood the processes and the liabilities of the company if foodborne bacteria are traced to our products. Are we doing everything by the book and reserving some liabilities for any future recalls?" Michael assured Alex and Gregory that everything was being done by the book and the accounting was following standard practices. Over the next 18 months, the FDA inspectors came and Michael reported everything was fine. After the next inspection, there was some listeria found in the product. The FDA insisted on a recall of batch 57839. Alex wanted to recall all the product to make sure that all batches were safe. "A total recall is too expensive and would mean that the product could be off the shelves for three to four weeks. It would be hard to regain our shelf advantage and we would lose market share," Michael explained. Alex seemed irritated and turned to Gregory for support, but he was silent. He then walked over to where Michael was sitting and said, "Michael, nothing is more important than our reputation. Our promise and mission is to provide great-tasting dressing made with the freshest, best, organic products. A total recall will show that we stand by our mission and promise. I know we would have some losses, but don't we have a liability reserve for recall, like a warranty reserve?" "The reserve will not cover the entire expense of a recall," Michael said. "It will be too expensive to do a total recall and will cause a huge loss for the quarter. In the next six months, we will need to renew a bank loan; a loss will hurt our renewal loan rate and terms. You know I have been working to get the company primed to go public as well." Alex offered that he didn't care about going public. He didn't start the business to be profitable. Gregory, on the other hand, indicated he thought going public was a great idea and would provide needed funds on a continuous basis. Alex told Michael that he needed to see all the FDA inspection reports. He asked, "What is the FDA requiring to be done to address the issue of listeria?" "I'm handling it, Alex," Michael said. "Don't worry about it. Just keep making new salad dressings so that we can stay competitive." "Well, Michael, just answer what the FDA is asking for." "Just to sterilize some of our equipment, but it shouldn't be too bad." "Michael, it's more than that," Alex responded. "The FDA contacted me directly and asked me to meet with them in three days to discuss our plans to meet the FDA requirements and standards. We will be fined for not addressing issues found in prior inspections. I want to see the past inspection reports so I can better understand the scope of the problem." "Listen, Alex," Michael said. "I just completed a cost-benefit analysis of fixing all the problems identified by the FDA and found the costs outweighed the benefits. We're better off paying whatever fines they impose and move on." "Michael, I don't care about cost-benefit analysis. I care about my reputation and that of the company. Bring me all the inspection reports tomorrow." The three of them met the following day. As Alex reviewed the past inspection reports, he realized that he had relied on Michael too much and his assurances that all was well with the FDA. In fact, the FDA had repeatedly noted that more sterilization of the equipment was needed and that storage of the products and ingredients needed additional care. Alex began to wonder whether Michael should stay on with the company. He also was concerned about the fact that Gregory had been largely silent during the discussions. He wondered whether Gregory was putting profits ahead of safety and the reputation of the company. Alex knows what the right thing to do is. As Alex prepares for a meeting on the inspection reports the next day, he focuses on influencing the positions of Michael and Gregory, both of whom will be involved in the meeting. Put yourself in Alex's position and answer the following questions. Michael has ignored which of the following Kohlberg Stages of Moral Development? A. Sensitivity B. Moral Intensity C. Intellectual Virtue D. Social Contract

D. Social Contract

8. A unique aspect of Johnson & Johnson's Credo is that it: A. It is an aspirational statement rather than the typical "thou shalt not" form of a code of ethics B. It encourages employees to interpret the values of the company C. It follows an agency approach to decision making D. It establishes general guidelines for ethical behavior when the code's ethics rules are unclear

A. It is an aspirational statement rather than the typical "thou shalt not" form of a code of ethics

4. Gregory and Alex started a small business based on a secret-recipe salad dressing that got rave reviews. Gregory runs the business end and makes all final operational decisions. Alex runs the creative side of the business. Alex's salad dressing was a jalapeno vinaigrette that went great with barbeque or burgers. He got many requests for the recipe and a local restaurant asked to use it as the house special, so Alex decided to bottle and market the dressing to the big box stores. Whole Foods and Trader Joe's carried the dressing; sales were increasing every month. As the business grew, Gregory and Alex hired Michael, a college friend and CPA, to be the CFO of the company. Michael's first suggestion was to do a five-year strategic plan with expanding product lines and taking the company public or selling it within five to seven years. Gregory and Alex weren't sure about wanting to go public and losing control, but expanding the product lines was appealing. Michael also wanted to contain costs and increase profit margins. At Alex's insistence, they called a meeting with Michael to discuss his plans. "Michael, we hired you to take care of the accounting and the financial details," Alex said. "We don't understand profit margins. On containing costs, the best ingredients must be used to ensure the quality of the dressing. We must meet all FDA requirements for food safety and containment of food borne bacteria, such as listeria or e. coli, as you develop cost systems." "Of course," Michael responded. "I will put processes in place to meet the FDA requirements." At the next quarterly meeting of the officers, Alex wanted an update on the FDA processes and the latest inspection. He was concerned whether Michael understood the importance of full compliance. "Michael," Alex said, "the FDA inspector and I had a discussion while he was here. He wanted to make sure I understood the processes and the liabilities of the company if foodborne bacteria are traced to our products. Are we doing everything by the book and reserving some liabilities for any future recalls?" Michael assured Alex and Gregory that everything was being done by the book and the accounting was following standard practices. Over the next 18 months, the FDA inspectors came and Michael reported everything was fine. After the next inspection, there was some listeria found in the product. The FDA insisted on a recall of batch 57839. Alex wanted to recall all the product to make sure that all batches were safe. "A total recall is too expensive and would mean that the product could be off the shelves for three to four weeks. It would be hard to regain our shelf advantage and we would lose market share," Michael explained. Alex seemed irritated and turned to Gregory for support, but he was silent. He then walked over to where Michael was sitting and said, "Michael, nothing is more important than our reputation. Our promise and mission is to provide great-tasting dressing made with the freshest, best, organic products. A total recall will show that we stand by our mission and promise. I know we would have some losses, but don't we have a liability reserve for recall, like a warranty reserve?" "The reserve will not cover the entire expense of a recall," Michael said. "It will be too expensive to do a total recall and will cause a huge loss for the quarter. In the next six months, we will need to renew a bank loan; a loss will hurt our renewal loan rate and terms. You know I have been working to get the company primed to go public as well." Alex offered that he didn't care about going public. He didn't start the business to be profitable. Gregory, on the other hand, indicated he thought going public was a great idea and would provide needed funds on a continuous basis. Alex told Michael that he needed to see all the FDA inspection reports. He asked, "What is the FDA requiring to be done to address the issue of listeria?" "I'm handling it, Alex," Michael said. "Don't worry about it. Just keep making new salad dressings so that we can stay competitive." "Well, Michael, just answer what the FDA is asking for." "Just to sterilize some of our equipment, but it shouldn't be too bad." "Michael, it's more than that," Alex responded. "The FDA contacted me directly and asked me to meet with them in three days to discuss our plans to meet the FDA requirements and standards. We will be fined for not addressing issues found in prior inspections. I want to see the past inspection reports so I can better understand the scope of the problem." "Listen, Alex," Michael said. "I just completed a cost-benefit analysis of fixing all the problems identified by the FDA and found the costs outweighed the benefits. We're better off paying whatever fines they impose and move on." "Michael, I don't care about cost-benefit analysis. I care about my reputation and that of the company. Bring me all the inspection reports tomorrow." The three of them met the following day. As Alex reviewed the past inspection reports, he realized that he had relied on Michael too much and his assurances that all was well with the FDA. In fact, the FDA had repeatedly noted that more sterilization of the equipment was needed and that storage of the products and ingredients needed additional care. Alex began to wonder whether Michael should stay on with the company. He also was concerned about the fact that Gregory had been largely silent during the discussions. He wondered whether Gregory was putting profits ahead of safety and the reputation of the company. Alex knows what the right thing to do is. As Alex prepares for a meeting on the inspection reports the next day, he focuses on influencing the positions of Michael and Gregory, both of whom will be involved in the meeting. Put yourself in Alex's position and answer the following questions. A. Kohlberg's Stages of Moral Development B. Rest Four-Stage Model C. Jones Moral Intensity Model D. Libby and Thorne Studt on Virtue

B. Rest Four Stage Model

4. In Chapter 4 we discussed the artificial tax shelter arrangements developed by KPMG LLP for wealthy clients that led to the settlement of a legal action with the Department of Treasury and the Internal Revenue Service. On August 29, 2005, KPMG admitted to criminal wrongdoing and agreed to pay $456 million in fines, restitution, and penalties as part of an agreement to defer prosecution of the firm. In addition, nine members of the firm were criminally indicted for their role in relation to the design, marketing, and implementation of fraudulent tax shelters. In the largest criminal tax case ever filed, KPMG admitted it engaged in a fraud that generated at least $11 billion dollars in phony tax losses, which, according to court papers, cost the United States at least $2.5 billion dollars in evaded taxes. In addition to KPMG's former deputy chairman, the individuals indicted included two former heads of KPMG's tax practice and a former tax partner in the New York City office of a prominent national law firm. The facts of the tax shelter arrangement are complicated, so we have condensed them for purposes of this case and present them in Exhibit 1. EXHIBIT 1 SUMMARY OF TAX SHELTER TRANSACTIONS DEVELOPED BY KPMG1 KPMG developed tax shelters to generate losses of $11.2 billion dollars for 601 wealthy clients that enabled them to avoid paying $2.5 billion in income taxes. KPMG mainly used four methods to help the wealthy clients avoid their tax liabilities or tax charges on capital gains. The shelters implemented were the Foreign Leveraged Investment Program (FLIP), Offshore Portfolio Investment Strategy (OPIS), Bond Linked Issue Premium Structure (BLIPS), and Short Option Strategy (SOS/SC 2). These shelters were designed to artificially create substantial phony capital losses through the use of an entity created in the Cayman Islands (a tax haven) for the purpose of the tax shelter transactions. The client purportedly entered into an investment transaction with the Cayman entity by purchasing purported warrants or entering into a purported swap. The Cayman entity then made a prearranged series of purported investments, including the purchase from either Bank A, which at the time was a KPMG audit client, Bank D, or both using money purportedly loaned by Bank A or Bank D, followed by redemptions of those stock purchases by the pertinent bank. The purported investments were devised to eliminate economic risk to the client beyond the cost to develop the tax shelters. In the implementation of FLIP and OPIS, KPMG issued misleading opinion letters with assistance from its co-conspirators. The opinion letters were misleading because KPMG knew that the tax positions taken were more likely than not to prevail against the IRS, and the opinion letters and other documents used to implement FLIP and OPIS were false and fraudulent in a number of ways. For instance, the opinion letters began by falsely stating that the client requested KPMG's opinion regarding the U.S. federal income tax consequences of certain investment portfolio transactions, while the real fact is that the conspirators targeted wealthy clients based on the clients' large taxable gains and offered to generate phony tax losses to eliminate income tax on that gain as well as to provide a "more likely than not" opinion letter. The "more likely than not" opinion letters provided an ambiguous and confusing view of the tax shelters to the users, but it brought an income of $50,000 to KPMG for each such opinion letter. In addition to that, the opinion letter continued by falsely stating that the investment strategy was based on the expectation that a leveraged position in the foreign bank securities would provide the investor with the opportunity for capital appreciation, when in fact the strategy was based on the expected tax benefits promised by certain conspirators in the tax frauds. Back in Chapter 4 we discussed the "realistic possibility of success" standard in taking tax positions under the Statements on Standards for Tax Services of the AICPA. This is a high standard to meet. Generally, there would need to be a 70-80 percent of prevailing if a tax position were challenged by the IRS. The "more likely than not" standard appears in Treasury Circular 230, which covers rules of conduct for those who practice before the IRS, including CPAs, attorneys, and enrolled agents. A tax preparer who fails to comply with Circular 230 will likely be subject to penalties and possibly other sanctions if she advises a client to take a position on a tax return or a document that does not meet the applicable tax reporting standard. The three standards for tax positions in Treasury Circular 230, ranked from lowest to highest, are reasonable basis, substantial authority, and more likely than not. A description of each of these standards appears in Exhibit 2. EXHIBIT 2 CIRCULAR 230 TAX POSITIONS AND COMPLIANCE STANDARDS2 Reasonable basis: Reasonable basis is the minimum standard for all tax advice and for preparation of all tax returns and other required tax documents to avoid a penalty under Section 6694 for the underpayment of taxes. If a return position is reasonably based on at least one relevant and persuasive tax authority cited, the return position will generally satisfy this standard. Substantial authority: Substantial authority for the tax treatment of an item exists only if the weight of the tax authorities (Internal Revenue Code, Treasury regulations, court cases, etc.) supporting the treatment is substantial in relation to the weight of authorities supporting contrary treatment. All authorities relevant to the tax treatment of an item, including the authorities contrary to the treatment, are taken into account in determining whether substantial authority exists. This standard may be measured as a greater than 40 percent likelihood of being sustained on its merits. More likely than not: More likely than not is "the standard that is met when there is a greater than 50 percent likelihood of the position being upheld." This is the standard for tax shelters under Section 6694 and reportable transactions. KPMG admitted that its personnel took specific, deliberate steps to conceal the existence of the shelters from the IRS by, among other things, failing to register the shelters with the IRS as required by law, fraudulently concealing the shelter losses and income on tax returns, and attempting to hide the shelters using sham attorney-client privilege claims. The information and indictment alleged that top leadership at KPMG made the decision to approve and participate in shelters; issue KPMG opinion letters despite significant warnings from KPMG tax experts and others throughout the development of the shelters; and, at critical junctures, that the shelters were close to frivolous and would not withstand IRS scrutiny, that the representations required to be made by the wealthy individuals were not credible, and the consequences of going forward with the shelters—as well as failing to register them—could include criminal investigation, among other things. As we noted in Chapter 4, an unusual aspect to the case is the culture that apparently existed in KPMG's tax practice during the time the shelters were sold, which was to aggressively market tax shelter arrangements targeting wealthy clients by approaching them with the deals rather than the clients coming to KPMG. Back in the late 1990s, the stock market was booming, and the firm sought to take advantage of the increasing number of wealthy clients by accelerating its tax-services business. The head of KPMG's tax department at the time, Jeffrey M. Stein, and its CFO, Richard Rosenthal, created an environment that treated those who didn't support the "growth at all costs" effort as not being team players. Once it became clear that the firm faced imminent criminal indictment over its tax shelters, KPMG turned to its head of human resources, Timothy Flynn, to somehow persuade the government not to indict. He knew that criminal charges against the firm would probably kill it, as they did Arthur Andersen after the Enron scandal. For years, KPMG had stoutly denied any impropriety, calling its tax advice legal. But Flynn took a gamble and met with Justice Department officials to acknowledge that KPMG had engaged in wrongdoing. He got no promises in return, and the admission could have sunk the firm. Instead, it provided flexibility to the prosecutors, who were aware that the collapse of one of only four remaining accounting giants could harm the financial markets. Two months later, the government gave KPMG a deferred-prosecution deal, holding off indicting if KPMG paid a $456 million penalty and met other conditions. The agreement between KPMG and the IRS required permanent restrictions on KPMG's tax practice, including the termination of two practice areas, one of which provided tax advice to wealthy individuals, and permanent adherence to higher tax practice standards regarding the issuance of certain tax opinions and the preparation of tax returns. In addition, the agreement banned KPMG's involvement with any prepackaged tax products and restricted KPMG's acceptance of fees not based on hourly rates. The agreement also required KPMG to implement and maintain an effective compliance and ethics program; to install an independent, government-appointed monitor to oversee KPMG's compliance with the deferred prosecution agreement for a three-year period; and its full and truthful cooperation in the pending criminal investigation, including the voluntary provision of information and documents. ___________________ 1 The facts are taken from the Report Prepared by the Minority Staff of the Permanent Subcommittee on Investigations of the Committee on Governmental Affairs of the United States Senate, titled "U.S. Tax Shelter Industry: The Role of Accountants, Lawyers and Financial Professionals—Four KPMG Case Studies: FLIP, OPIS, BLIPS, and SC2," November 18 and 20, 2003, Available at: http://www.gpo.gov/fdsys/pkg/CPRT-108SPRT90655/html/CPRT-108SPRT90655.htm. 2 Regulations Governing Practice before the Internal Revenue Service, Title 31 Code of Federal Regulations, Subtitle A, Part 10, published June 12, 2014, Treasury Department Circular No. 230 (Rev. 6-2014), Available at: http://www.irs.gov/pub/irs-pdf/pcir230.pdf. Why do you suppose the marketing of the tax shelters at KPMG grew so fast? Transformational leadership Moral manager C. Social learning theory Moral intensity

C. Social learning theory

Auditors are required to communicate with the audit committee all but which of the following:

The procedures followed to comply with generally accepted auditing standards

11. Carpendale suggests that moral reasoning is viewed as a process of coordinating all perspectives involved in a moral dilemma. Moral reasoning takes place in which of the following steps in Rest's Model? A. Moral sensitivity B. Moral development C. Moral judgment D. Moral character

C. Moral judgment

10. Which of the following is NOT an attribute of internal audit leadership according to Chambers? Honesty B. Objectivity Accountability Trustworthiness

Objectivity

Which of the following is NOT one of the most relevant sources of civil liabilities for auditors charged with failing to adhere to the requirements of the laws in carrying out professional obligations?

Private Securities Litigation Reform Act of 1995

The Tax Inversion case deals with:

Whether IFRS should be used for all subsidiaries following an acquisition

Which of the following is not one of the evaluations of the control environment of an organization?

Whether the company has an anonymous hotline

The ethical dilemma that faces Ronnie Maloney is best described as:

Whether to properly inform the audit committee of critical audit matters

In the Reauditing Financial Statements case, all of the following would be appropriate questions to ask a predecessor auditor except:

whether they could obtain the predecessor auditor workpapers

1. Which of the following is NOT an underlying trait of character of an effective leader identified by Johnson? A. Confidence B. Temperance C. Reverence D. Compassion

A. Confidence

14. A unique aspect of the story of ethical leadership illustrated by Diem-Thi Le is that: A. Le's working papers were altered by her supervisor Le's audit opinion was changed from modified to unmodified Le's whistleblowing complaint did not lead to retaliation Le was fired from her job

A. Le's working papers were altered by her supervisor

25. The auditors' responsibility to communicate findings with respect to fraud can best be summarized as: A. Communicate to the audit committee the existence of fraud but not the amount involved B. Communicate to the audit committee both material and immaterial amounts of fraud that are detected C. Communicate to the SEC the existence of fraud but not the amount involved D. Communicate to the SEC both material and immaterial amounts of fraud that are detected

B. Communicate to the audit committee both material and immaterial amounts of fraud that are detected

A privity relationship means that:

C. A party has a contractual obligation

12. The framework of COSO's Enterprise Risk Management can best be characterized as: Incorporate enhanced internal control principles into enhanced corporate governance Incorporate enhanced audit sampling procedures in the testing of internal controls Incorporate enhanced corporate governance into internal control principles Incorporate enhanced audit sampling procedures in substantive testing

C. Incorporate enhanced corporate governance into internal control principles

3. The following information applies to the questions displayed below.] Yes. Cheating occurs at the prestigious Harvard University. In 2012, Harvard forced dozens of students to leave in its largest cheating scandal in memory, but the institution would not address assertions that the blame rested partly with a professor and his teaching assistants. The issue is whether cheating is truly cheating when students collaborate with each other to find the right answer—in a take-home final exam. Harvard released the results of its investigation into the controversy, in which 125 undergraduates were alleged to have cheated on an exam in May 2012. The university said that more than half of the students were forced to withdraw, a penalty that typically lasts from two to four semesters. Many returned by 2015. Of the remaining cases, about half were put on disciplinary probation—a strong warning that becomes part of a student's official record. The rest of the students avoided punishment. In previous years, students thought of Government 1310 as an easy class with optional attendance and frequent collaboration. But students who took it in spring 2012 said that it had suddenly become quite difficult, with tests that were hard to comprehend, so they sought help from the graduate teaching assistants who ran the class discussion groups, graded assignments, and advised them on interpreting exam questions. Administrators said that on final-exam questions, some students supplied identical answers (right down to typographical errors in some cases), indicating that they had written them together or plagiarized them. But some students claimed that the similarities in their answers were due to sharing notes or sitting in on sessions with the same teaching assistants. The instructions on the take-home exam explicitly prohibited collaboration, but many students said they did not think that included talking with teaching assistants. The first page of the exam contained these instructions: "The exam is completely open book, open note, open Internet, etc. However, in all other regards, this should fall under similar guidelines that apply to in-class exams. More specifically, students may not discuss the exam with others—this includes resident tutors, writing centers, etc." Students complained about confusing questions on the final exam. Due to "some good questions" from students, the instructor clarified three exam questions by email before the due date of the exams. Students claim to have believed that collaboration was allowed in the course. The course's instructor and the teaching assistants sometimes encouraged collaboration, in fact. The teaching assistants—graduate students who graded the exams and ran weekly discussion sessions—varied widely in how they prepared students for the exams, so it was common for students in different sections to share lecture notes and reading materials. During the final exam, some teaching assistants even worked with students to define unfamiliar terms and help them figure out exactly what certain test questions were asking. Some have questioned whether it is the test's design, rather than the students' conduct, that should be criticized. Others place the blame on the teaching assistants who opened the door to collaboration outside of class by their own behavior in helping students to understand the questions better. Harvard adopted an honor code on May 6, 2014. In May 2017, Harvard announced that more than 60 students enrolled in Computer Science 50 (CS50): Introduction to Computer Science I appeared before the College's Honor Council investigating cases of academic dishonesty. While the facts have been kept confidential so far, a statement on the course website establishes standards for behavior: "The course recognizes that interactions with classmates and others can facilitate mastery of the course's material, [but] there remains a line between enlisting the help of another and submitting the work of another." The site provides some guidance: Acts of collaboration that are reasonable include sharing a few lines of code. Acts not reasonable include soliciting solutions to homework problems online. CS50 introduced a "regret clause," allowing students who commit "unreasonable" acts to face only course-specific penalties [not institutional] if they report the violation within 72 hours. We could best examine the actions of the students in this case by examining student _______. A. ethics B. morals C. norms and values D. laws

C. norms and values

The unique aspect of auditors' legal liability in the Rosenblum v. Adler ruling is:

D. Auditors could be held liable for ordinary negligence to all reasonably foreseeable third parties

Under the Securities Act of 1933, accountants who assist in the preparation of the registration statement are civilly liable if the registration statement:

D. All of the above

18. In the ZZZZ best case, Barry Minkow was charged with: A. A fraudulent insurance restoration scam Insider trading on Lennar stock Stealing from a San Diego church Overcharging a LA housewife for carpet cleaning services

A. A fraudulent insurance restoration scam

15. A payment made to induce a foreign government official to do something they might not otherwise be required to do is a(n): A. Bribe Asset misappropriation Facilitating Payment Legal Payment

A. Bribe

5. [The following information applies to the questions displayed below.] Family Games, Inc., is a privately owned company with annual sales from a variety of wholesome electronic games that are designed for use by the entire family. The company sees itself as family-oriented and with a mission to serve the public. However, during the past two years, the company reported a net loss due to cost-cutting measures that were necessary to compete with overseas manufacturers and distributors. Yeah, I know all of the details weren't completed until January 2, 2019, but we agreed on the transaction on December 30, 2018. By my way of reasoning, it's a continuation transaction and the $12 million revenue belongs in the results for 2018. What's more, the goods were on the delivery truck on December 31, 2018 waiting to be shipped after the New Year. This comment was made by Carl Land, the CFO of Family Games, to Helen Strom, the controller of Family Games, after Strom had expressed her concern that because the lawyers did not sign off on the transaction until January 2, 2019, because of the holiday, the revenue should not be recorded in 2018. Land felt that Strom was being hyper-technical. He had seen it before from Helen and didn't like it. She needed to learn to be a team player. "Listen, Helen, this comes from the top," Land said. "The big boss said we need to have the $12 million recorded in the results for 2018." "I don't get it," Helen said to Land. "Why the pressure?" "The boss wants to increase his performance bonus by increasing earnings in 2018. Apparently, he lost some money in Vegas over the Christmas weekend and left a sizable IOU at the casino," Land responded. Helen shook her head in disbelief. She didn't like the idea of operating results being manipulated based on the personal needs of the CEO. She knew that the CEO had a gambling problem. This sort of thing had happened before. The difference this time was that it had the prospect of affecting the reported results, and she was being asked to do something that she knows is wrong. "I can't change the facts," Helen said. "All you have to do is backdate the sales invoice to December 30, when the final agreement was reached," Land responded. "As I said before, just think of it as a revenue-continuation transaction that started in 2018 and, but for one minor technicality, should have been recorded in that year. Besides, you know we push the envelope around here." "You're asking me to 'cook the books,' " Helen said. "I won't do it." "I hate to play hardball with you, Helen, but the boss authorized me to tell you he will stop reimbursing you in the future for child care costs so that your kid can have a live-in nanny 24-7 unless you go along on this issue. I promise, Helen, it will be a one-time request," Land said. Helen was surprised by the threat and dubious "one-time-event" explanation. She sat down and reflected on the fact that the reimbursement payments for her child care were $35,000, 35 percent of her annual salary. As a single working mother, Helen knew there was no other way that she could afford to pay for the full-time care needed by her autistic son. Carl Land's observation that "we push the envelope around here" is typical of the rationalization employed in _____________. A. Groupthink tendency B. Availability tendency C. Overconfidence tendency D. Confirmation tendency

A. Groupthink tendency

A "particularized" allegation requires establishing: Strong circumstantial evidence of conscious misbehavior Strong circumstantial evidence of recklessness Facts showing the defendant had both motive and opportunity to commit securities fraud All of the above

All of the above

17. Financial shenanigans involving recording revenue too soon includes all of the following except: Recording revenue when future services are still to be provided Recording revenue before shipment of a product C. Recording revenue after customer acceptance Recording revenue when the customer is not obligated to pay

C. Recording revenue after customer acceptance

18. Under the rules of the Sarbanes-Oxley Act of 2002 (SOX), who must certify the public reports filed with the SEC? The independent auditor The CEO and the independent auditor C. The CEO and CFO The CFO and the board of directors

C. The CEO and CFO

The legal precedent that evolves from legal opinions issued by judges in deciding a case and guides judges in deciding similar cases in the future is referred to as: Business law Tort law Common law Statutory law

Common law

16. Some critics claim the usefulness of the audit report is limited because: A. Auditors do not examine all of the transactions B. Language in the audit report relies on subjective evaluations such as what is meant by "reasonable" C. Transactions examined are based on materiality and risk assessment determinations D. All of these may create doubts about usefulness

D. All of these may create doubts about usefulness

1. [The following information applies to the questions displayed below.] Bowen H. McCoy Reprinted with permission from "The Parable of the Sadhu," by Bowen H. McCoy, Harvard Business Review. Copyright © Harvard Business Publishing. Last year, as the first participant in the new six-month sabbatical program that Morgan Stanley has adopted, I enjoyed a rare opportunity to collect my thoughts as well as do some traveling. I spent the first three months in Nepal, walking 600 miles through 200 villages in the Himalayas and climbing some 120,000 vertical feet. My sole Western companion on the trip was an anthropologist who shed light on the cultural patterns of the villages that we passed through. During the Nepal hike, something occurred that has had a powerful impact on my thinking about corporate ethics. Although some might argue that the experience has no relevance to business, it was a situation in which a basic ethical dilemma suddenly intruded into the lives of a group of individuals. How the group responded holds a lesson for all organizations, no matter how defined. The Sadhu The Nepal experience was more rugged than I had anticipated. Most commercial treks last two or three weeks and cover a quarter of the distance we traveled. My friend Stephen, the anthropologist, and I were halfway through the 60-day Himalayan part of the trip when we reached the high point, an 18,000-foot pass over a crest that we'd have to traverse to reach the village of Muklinath, an ancient holy place for pilgrims. Six years earlier, I had suffered pulmonary edema, an acute form of altitude sickness, at 16,500 feet in the vicinity of Everest base camp—so we were understandably concerned about what would happen at 18,000 feet. Moreover, the Himalayas were having their wettest spring in 20 years; hip-deep powder and ice had already driven us off one ridge. If we failed to cross the pass, I feared that the last half of our once-in-a-lifetime trip would be ruined. The night before we would try the pass, we camped in a hut at 14,500 feet. In the photos taken at that camp, my face appears wan. The last village we'd passed through was a sturdy two-day walk below us, and I was tired. During the late afternoon, four backpackers from New Zealand joined us, and we spent most of the night awake, anticipating the climb. Below, we could see the fires of two other parties, which turned out to be two Swiss couples and a Japanese hiking club. To get over the steep part of the climb before the sun melted the steps cut in the ice, we departed at 3.30 a.m. The New Zealanders left first, followed by Stephen and myself, our porters and Sherpas, and then the Swiss. The Japanese lingered in their camp. The sky was clear, and we were confident that no spring storm would erupt that day to close the pass. At 15,500 feet, it looked to me as if Stephen was shuffling and staggering a bit, which are symptoms of altitude sickness. (The initial stage of altitude sickness brings a headache and nausea. As the condition worsens, a climber may encounter difficult breathing, disorientation, aphasia, and paralysis.) I felt strong—my adrenaline was flowing—but I was very concerned about my ultimate ability to get across. A couple of our porters were also suffering from the height, and Pasang, our Sherpa sirdar (leader), was worried. Just after daybreak, while we rested at 15,500 feet, one of the New Zealanders, who had gone ahead, came staggering down toward us with a body slung across his shoulders. He dumped the almost naked, barefoot body of an Indian holy man—a sadhu—-at my feet. He had found the pilgrim lying on the ice, shivering and suffering from hypothermia. I cradled the sadhu's head and laid him out on the rocks. The New Zealander was angry. He wanted to get across the pass before the bright sun melted the snow. He said, "Look, I've done what I can. You have porters and Sherpa guides. You care for him. We're going on!" He turned and went back up the mountain to join his friends. I took a carotid pulse and found that the sadhu was still alive. We figured he had probably visited the holy shrines at Muklinath and was on his way home. It was fruitless to question why he had chosen this desperately high route instead of the safe, heavily traveled caravan route through the Kali Gandaki gorge. Or why he was shoeless and almost naked, or how long he had been lying in the pass. The answers weren't going to solve our problem. Stephen and the four Swiss began stripping off their outer clothing and opening their packs. The sadhu was soon clothed from head to foot. He was not able to walk, but he was very much alive. I looked down the mountain and spotted the Japanese climbers, marching up with a horse. Without a great deal of thought, I told Stephen and Pasang that I was concerned about withstanding the heights to come and wanted to get over the pass. I took off after several of our porters who had gone ahead. On the steep part of the ascent where, if the ice steps had given way, I would have slid down about 3,000 feet, I felt vertigo. I stopped for a breather, allowing the Swiss to catch up with me. I inquired about the sadhu and Stephen. They said that the sadhu was fine and that Stephen was just behind them. I set off again for the summit. Stephen arrived at the summit an hour after I did. Still exhilarated by victory, I ran down the slope to congratulate him. He was suffering from altitude sickness—walking 15 steps, then stopping, walking 15 steps, then stopping. Pasang accompanied him all the way up. When I reached them, Stephen glared at me and said, "How do you feel about contributing to the death of a fellow man?" I did not completely comprehend what he meant. "Is the sadhu dead?" I inquired. "No," replied Stephen, "but he surely will be!" After I had gone, followed not long after by the Swiss, Stephen had remained with the sadhu. When the Japanese had arrived, Stephen had asked to use their horse to transport the sadhu down to the hut. They had refused. He had then asked Pasang to have a group of our porters carry the sadhu. Pasang had resisted the idea, saying that the porters would have to exert all their energy to get themselves over the pass. He believed they could not carry a man down 1,000 feet to the hut, reclimb the slope, and get across safely before the snow melted. Pasang had pressed Stephen not to delay any longer. The Sherpas had carried the sadhu down to a rock in the sun at about 15,000 feet and pointed out the hut another 500 feet below. The Japanese had given him food and drink. When they had last seen him, he was listlessly throwing rocks at the Japanese party's dog, which had frightened him. We do not know if the sadhu lived or died. For many of the following days and evenings, Stephen and I discussed and debated our behavior toward the sadhu. Stephen is a committed Quaker with deep moral vision. He said, "I feel that what happened with the sadhu is a good example of the breakdown between the individual ethic and the corporate ethic. No one person was willing to assume ultimate responsibility for the sadhu. Each was willing to do his bit just so long as it was not too inconvenient. When it got to be a bother, everyone just passed the buck to someone else and took off. Jesus was relevant to a more individualistic stage of society, but how do we interpret his teaching today in a world filled with large, impersonal organizations and groups?" I defended the larger group, saying, "Look, we all cared. We all gave aid and comfort. Everyone did his bit. The New Zealander carried him down below the snow line. I took his pulse and suggested we treat him for hypothermia. You and the Swiss gave him clothing and got him warmed up. The Japanese gave him food and water. The Sherpas carried him down to the sun and pointed out the easy trail toward the hut. He was well enough to throw rocks at a dog. What more could we do?" "You have just described the typical affluent Westerner's response to a problem. Throwing money—in this case, food and sweaters—at it, but not solving the fundamentals!" Stephen retorted. "What would satisfy you?" I said. "Here we are, a group of New Zealanders, Swiss, Americans, and Japanese who have never met before and who are at the apex of one of the most powerful experiences of our lives. Some years the pass is so bad no one gets over it. What right does an almost naked pilgrim who chooses the wrong trail have to disrupt our lives? Even the Sherpas had no interest in risking the trip to help him beyond a certain point." Stephen calmly rebutted, "I wonder what the Sherpas would have done if the sadhu had been a well-dressed Nepali, or what the Japanese would have done if the sadhu had been a well-dressed Asian, or what you would have done, Buzz, if the sadhu had been a well-dressed Western woman?" "Where, in your opinion," I asked, "is the limit of our responsibility in a situation like this? We had our own well-being to worry about. Our Sherpa guides were unwilling to jeopardize us or the porters for the sadhu. No one else on the mountain was willing to commit himself beyond certain self-imposed limits." Stephen said, "As individual Christians or people with a Western ethical tradition, we can fulfill our obligations in such a situation only if one, the sadhu dies in our care; two, the sadhu demonstrates to us that he can undertake the two-day walk down to the village; or three, we carry the sadhu for two days down to the village and persuade someone there to care for him." "Leaving the sadhu in the sun with food and clothing—where he demonstrated hand-eye coordination by throwing a rock at a dog—comes close to fulfilling items one and two," I answered. "And it wouldn't have made sense to take him to the village where the people appeared to be far less caring than the Sherpas, so the third condition is impractical. Are you really saying that, no matter what the implications, we should, at the drop of a hat, have changed our entire plan?" The Individual versus the Group Ethic Despite my arguments, I felt and continue to feel guilt about the sadhu. I had literally walked through a classic moral dilemma without fully thinking through the consequences. My excuses for my actions include a high adrenaline flow, a superordinate goal, and a once-in-a-lifetime opportunity—common factors in corporate situations, especially stressful ones. Real moral dilemmas are ambiguous, and many of us hike right through them, unaware that they exist. When, usually after the fact, someone makes an issue of one, we tend to resent his or her bringing it up. Often, when the full import of what we have done (or not done) hits us, we dig into a defensive position from which it is very difficult to emerge. In rare circumstances, we may contemplate what we have done from inside a prison. Had we mountaineers been free of stress caused by the effort and the high altitude, we might have treated the sadhu differently. Yet isn't stress the real test of personal and corporate values? The instant decisions that executives make under pressure reveal the most about personal and corporate character. Among the many questions that occur to me when I ponder my experience with the sadhu are: What are the practical limits of moral imagination and vision? Is there a collective or institutional ethic that differs from the ethics of the individual? At what level of effort or commitment can one discharge one's ethical responsibilities? Not every ethical dilemma has a right solution. Reasonable people often disagree; otherwise there would be no dilemma. In a business context, however, it is essential that managers agree on a process for dealing with dilemmas. Our experience with the sadhu offers an interesting parallel to business situations. An immediate response was mandatory. Failure to act was a decision in itself. Up on the mountain, we could not resign and submit our résumés to a headhunter. In contrast to philosophy, business involves action and implementation—getting things done. Managers must come up with answers based on what they see and what they allow to influence their decision-making processes. On the mountain, none of us but Stephen realized the true dimensions of the situation we were facing. One of our problems was that as a group, we had no process for developing a consensus. We had no sense of purpose or plan. The difficulties of dealing with the sadhu were so complex that no one person could handle them. Because the group did not have a set of preconditions that could guide its action to an acceptable resolution, we reacted instinctively as individuals. The cross-cultural nature of the group added a further layer of complexity. We had no leader with whom we could all identify and in whose purpose we believed. Only Stephen was willing to take charge, but he could not gain adequate support from the group to care for the sadhu. Some organizations do have values that transcend the personal values of their managers. Such values, which go beyond profitability, are usually revealed when the organization is under stress. People throughout the organization generally accept its values, which, because they are not presented as a rigid list of commandments, may be somewhat ambiguous. The stories people tell, rather than printed materials, transmit the organization's conceptions of what is proper behavior. For 20 years, I have been exposed at senior levels to a variety of corporations and organizations. It is amazing how quickly an outsider can sense the tone and style of an organization and, with that, the degree of tolerated openness and freedom to challenge management. Organizations that do not have a heritage of mutually accepted, shared values tend to become unhinged during stress, with each individual bailing out for himself or herself. In the great takeover battles we have witnessed during past years, companies that had strong cultures drew the wagons around them and fought it out, while other companies saw executives—supported by golden parachutes—bail out of the struggles. Because corporations and their members are interdependent, for the corporation to be strong, the members need to share a preconceived notion of correct behavior, a "business ethic," and think of it as a positive force, not a constraint. As an investment banker, I am continually warned by well-meaning lawyers, clients, and associates to be wary of conflicts of interest. Yet if I were to run away from every difficult situation, I wouldn't be an effective investment banker. I have to feel my way through conflicts. An effective manager can't run from risk either; he or she has to confront risk. To feel "safe" in doing that, managers need the guidelines of an agreed-upon process and set of values within the organization. After my three months in Nepal, I spent three months as an executive-in-residence at both the Stanford Business School and the University of California at Berkeley's Center for Ethics and Social Policy of the Graduate Theological Union. Those six months away from my job gave me time to assimilate 20 years of business experience. My thoughts turned often to the meaning of the leadership role in any large organization. Students at the seminary thought of themselves as antibusiness. But when I questioned them, they agreed that they distrusted all large organizations, including the church. They perceived all large organizations as impersonal and opposed to individual values and needs. Yet we all know of organizations in which people's values and beliefs are respected and their expressions encouraged. What makes the difference? Can we identify the difference and, as a result, manage more effectively? The word ethics turns off many and confuses more. Yet the notions of shared values and an agreed-upon process for dealing with adversity and change—what many people mean when they talk about corporate culture—seem to be at the heart of the ethical issue. People who are in touch with their own core beliefs and the beliefs of others and who are sustained by them can be more comfortable living on the cutting edge. At times, taking a tough line or a decisive stand in a muddle of ambiguity is the only ethical thing to do. If a manager is indecisive about a problem and spends time trying to figure out the "good" thing to do, the enterprise may be lost. Business ethics, then, has to do with the authenticity and integrity of the enterprise. To be ethical is to follow the business as well as the cultural goals of the corporation, its owners, its employees, and its customers. Those who cannot serve the corporate vision are not authentic businesspeople and, therefore, are not ethical in the business sense. At this stage of my own business experience, I have a strong interest in organizational behavior. Sociologists are keenly studying what they call corporate stories, legends, and heroes as a way organizations have of transmitting value systems. Corporations such as Arco have even hired consultants to perform an audit of their corporate culture. In a company, a leader is a person who understands, interprets, and manages the corporate value system. Effective managers, therefore, are action-oriented people who resolve conflict, are tolerant of ambiguity, stress, and change, and have a strong sense of purpose for themselves and their organizations. If all this is true, I wonder about the role of the professional manager who moves from company to company. How can he or she quickly absorb the values and culture of different organizations? Or is there, indeed, an art of management that is totally transportable? Assuming that such fungible managers do exist, is it proper for them to manipulate the values of others? What would have happened had Stephen and I carried the sadhu for two days back to the village and become involved with the villagers in his care? In four trips to Nepal, my most interesting experience occurred in 1975, when I lived in a Sherpa home in the Khumbu for five days while recovering from altitude sickness. The high point of Stephen's trip was an invitation to participate in a family funeral ceremony in Manang. Neither experience had to do with climbing the high passes of the Himalayas. Why were we so reluctant to try the lower path, the ambiguous trail? Perhaps because we did not have a leader who could reveal the greater purpose of the trip to us. Why didn't Stephen, with his moral vision, opt to take the sadhu under his personal care? The answer is partly because Stephen was hard-stressed physically himself and partly because, without some support system that encompassed our involuntary and episodic community on the mountain, it was beyond his individual capacity to do so. I see the current interest in corporate culture and corporate value systems as a positive response to pessimism such as Stephen's about the decline of the role of the individual in large organizations. Individuals who operate from a thoughtful set of personal values provide the foundation for a corporate culture. A corporate tradition that encourages freedom of inquiry, supports personal values, and reinforces a focused sense of direction can fulfill the need to combine individuality with the prosperity and success of the group. Without such corporate support, the individual is lost. That is the lesson of the sadhu. In a complex corporate situation, the individual requires and deserves the support of the group. When people cannot find such support in their organizations, they don't know how to act. If such support is forthcoming, a person has a stake in the success of the group and can add much to the process of establishing and maintaining a corporate culture. Management's challenge is to be sensitive to individual needs, to shape them, and to direct and focus them for the benefit of the group as a whole. For each of us, the sadhu lives. Should we stop what we are doing and comfort him; or should we keep trudging up toward the high pass? Should I pause to help the derelict I pass on the street each night as I walk by the Yale Club en route to Grand Central Station? Am I his brother? What is the nature of our responsibility if we consider ourselves to be ethical persons? Perhaps it is to change the values of the group so that it can, with all its resources, take the other road. The Sadhu was handed off from one group to another due to what? A. The lack of an organizational ethical culture B. The lack of Koh and Boo's ethical climate C. The lack of a common corporate culture D. All of these choices are correct.

D. All of these choices are correct.

15. Which of the following is not one of the reporting standards of GAAS that guides auditors in formulating the audit opinion? A. The financial statements have followed GAAP. B. Consistency in the application of GAAP. C. Adequate disclosures exist in the statements. D. Gathering sufficient audit evidence to warrant an opinion.

D. Gathering sufficient audit evidence to warrant an opinion.

6. [The following information applies to the questions displayed below.] Ed Giles and Susan Regas have never been happier than during the past four months since they have been seeing each other. Giles is a 35-year-old CPA and a partner in the medium-sized accounting firm of Saduga & Mihca. Regas is a 25-year-old senior accountant in the same firm. Although it is acceptable for peers to date, the firm does not permit two members of different ranks within the firm to do so. A partner should not date a senior in the firm any more than a senior should date a junior staff accountant. If such dating eventually leads to marriage, then one of the two must resign because of the conflicts of interest. Both Giles and Regas know the firm's policy on dating, and they have tried to be discreet about their relationship because they don't want to raise any suspicions. While most of the staff seem to know about Giles and Regas, it is not common knowledge among the partners that the two of them are dating. Perhaps that is why Regas was assigned to work on the audit of CAA Industries for a second year, even though Giles is the supervising partner on the engagement. As the audit progresses, it becomes clear to the junior staff members that Giles and Regas are spending personal time together during the workday. On one occasion, they were observed leaving for lunch together. Regas did not return to the client's office until three hours later. On another occasion, Regas seemed distracted from her work, and later that day, she received a dozen roses from Giles. A friend of Regas's who knew about the relationship, Ruth Revilo, became concerned when she happened to see the flowers and a card that accompanied them. The card was signed, "Love, Poochie." Regas had once told Revilo that it was the nickname that Regas gave to Giles. Revilo pulls Regas aside at the end of the day and says, "We have to talk." "What is it?" Regas asks. "I know the flowers are from Giles," Revilo says. "Are you crazy?" "It's none of your business," Regas responds. Revilo goes on to explain that others on the audit engagement team are aware of the relationship between the two. Revilo cautions Regas about jeopardizing her future with the firm by getting involved in a serious dating relationship with someone of a higher rank. Regas does not respond to this comment. Instead, she admits to being distracted lately because of an argument that she had with Giles. It all started when Regas had suggested to Giles that it might be best if they did not go out during the workweek because she was having a hard time getting to work on time. Giles was upset at the suggestion and called her ungrateful. He said, "I've put everything on the line for you. There's no turning back for me." She points out to Revilo that the flowers are Giles's way of saying he is sorry for some of the comments he had made about her. Regas promises to talk to Giles and thanks Revilo for her concern. That same day, Regas telephones Giles and tells him she wants to put aside her personal relationship with him until the CAA audit is complete in two weeks. She suggests that, at the end of the two-week period, they get together and thoroughly examine the possible implications of their continued relationship. Giles reluctantly agrees, but he conditions his acceptance on having a "farewell" dinner at their favorite restaurant. Regas agrees to the dinner. Giles and Regas have dinner that Saturday night. As luck would have it, the controller of CAA Industries, Mark Sax, is at the restaurant with his wife. Sax is startled when he sees Giles and Regas together. He wonders about the possible seriousness of their relationship, while reflecting on the recent progress billings of the accounting firm. Sax believes that the number of hours billed is out of line with work of a similar nature and the fee estimate. He had planned to discuss the matter with Herb Morris, the managing partner of the firm. He decides to call Morris on Monday morning. "Herb, you son of a gun, it's Mark Sax." "Mark. How goes the audit?" "That's why I'm calling," Sax responds. "Can we meet to discuss a few items?" "Sure," Morris replies. "Just name the time and place." "How about first thing tomorrow morning?" asks Sax. "I'll be in your office at 8:00 a.m.," says Morris. "Better make it at 7:00 a.m., Herb, before your auditors arrive." Sax and Morris meet to discuss Sax's concerns about seeing Giles and Regas at the restaurant and the possibility that their relationship is negatively affecting audit efficiency. Morris asks whether any other incidents have occurred to make him suspicious about the billings. Sax says that he is only aware of this one instance, although he sensed some apprehension on the part of Regas last week when they discussed why it was taking so long to get the audit recommendations for adjusting entries. Morris listens attentively until Sax finishes and then asks him to be patient while he sets up a meeting to discuss the situation with Giles. Morris promises to get back to Sax by the end of the week. Ethical and Professional Issues Giles and Regas have put themselves in a position where their work product may suffer as a result of their relationship. It appears that this already has occurred since Mark Sax, the controller of CAA Industries, has expressed his concerns to Herb Morris, the managing partner of the local office of the firm that the delay in audit completion and high level of billings may be due to distractions resulting from the relationship. The reliability of Giles and Regas seems to be questioned by Sax. An important ethical concern is the conflict of interest that Giles may have if, for example, he determines that Regas is not adequately carrying out her responsibilities. Giles could have a difficult time dealing with this situation in the same way that he would handle a situation that involved a staff member with whom his relationship is solely professional. Moreover, the audit manager is in a sensitive position because he or she may know of the relationship and hesitate to treat Regas the same way other staff members are treated because Giles is the manager's superior. A conflict of interest tends to cloud one's judgment as to what is the right thing to do. It makes it more difficult for a supervisor to be impartial. Even the appearance of a conflict can harm the image of the professional. It has been said that the best way to handle a conflict of interest is not to become involved in one in the first place. This is why the codes of conduct of professional accounting associations preclude members from engaging in activities that can create such a conflict. The Principle of Objectivity in the AICPA Code requires that: A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. The ethical standard of Integrity in IMA Code states that: Management accountants have a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict. The firm's policy on dating seems to be appropriate. It is designed to avoid compromising client relations and audit efficiency. The profession sets high standards of conduct to guide its members in relationships with clients, suppliers, customers and others who can influence the decision-making process. These same high standards should be aspired to by all CPAs in dealing with members of their organization and other professionals. Giles and Regas are not acting in a professional manner. They seem to know this because in the last sentence of the first paragraph it states that they "have tried to be discreet about their relationship because they don't want to create any suspicions." If they truly felt comfortable with their relationship, then they would have nothing to hide. However, their actions violate firm policy and this is undoubtedly why they are being discreet. It appears from the facts of the case that Giles is more responsible than Regas for the tension on the CAA Industries audit. To begin with, he never should have allowed Regas to serve as the senior on the audit since he is the supervising partner on the engagement. Perhaps he allowed her to work on the audit because to do otherwise might have aroused suspicions about a possible relationship between the two of them. Giles also seems to have created stress for Regas by his inappropriate comment: "There's no turning back for me." This type of comment can only add to the pressure Regas feels, given that her work is scrutinized by Giles. The result may be to negatively affect audit efficiency. Although Regas' involvement in the relationship should not be dismissed, she does seem to recognize the dangers and ultimately makes a decision to put aside their relationship in the interests of completing the audit. Rather than simply honoring her request not to date for two weeks, Giles conditions his agreement on a "farewell" dinner. This is not a very caring and considerate thing to do and it demonstrates selfishness on the part of Giles. In fact, the dinner is the event that brings matters out in the open because Mark Sax now suspects that their relationship may be affecting completion of the audit. The direct involvement of the client puts the firm in a very difficult position, one that Herb Morris will have to deal with at the meeting with Giles. Ethical Analysis The decision to be made by Herb Morris can be analyzed using ethical reasoning. The stakeholders affected by Morris' decision include: Giles and Regas; the accounting firm; other staff members of the firm and its partners; CAA Industries and other clients that might be affected by the decision; and Mark Sax. Utilitarian Theory: From a utilitarian perspective, Morris should weigh the consequences of alternative courses of action. The alternatives and an evaluation of the potential benefits and harms of each course of action follow. Permit Giles and Regas to complete the audit, but ask one of them to resign thereafter. It is not practical to remove Giles or Regas from an audit that should be completed in about two weeks. The decision already has been made to put aside their relationship until the CAA audit is completed. This seems to be the best option from both the accounting firm's position and that of the client. All stakeholders seem to benefit from allowing Giles and Regas to fulfill their audit responsibilities under act utilitarianism. The second part of this option is more troubling in that it is difficult to determine who should be asked to resign. It is an issue of fairness and due care. On the surface it may appear that Regas should be asked to resign because of Giles' position in the firm. However, this may not be in the best interests of the firm and other clients who may be very satisfied with the work of Regas. These stakeholders could be harmed by a decision that leads to the resignation of a valued member of the firm, and one with excellent future prospects. While the facts of the case are silent on this issue, it is an important one for Morris to consider. Clearly, he should meet with the other partners before making a decision. Any decision to remove Giles from the partnership is likely to be an expensive one for the firm since it will have to buyout Giles' ownership interest. Permit Giles and Regas to complete the audit and allow both of them to continue with the firm. If both Giles and Regas are allowed to continue with the firm, then other staff members may start to wonder whether there are any consequences of violating firm policy. This is likely to be a particularly sensitive issue since some staff members on the CAA audit already suspect that the relationship is affecting the performance of Regas. Additionally, Mark Sax is aware of the situation and has expressed CAA's concern about the effect the relationship may be having on audit billings. On the other hand, Morris may believe that a warning is sufficient to protect the firm's interests and those of the client, especially since the firm's policy only requires one of the two to resign if marriage is eventually planned. It may be that the best option is to give them another chance but take measures to prevent them from serving together on any audits in the future. Rights Theory: From a rights approach, the most important issue is that of universality. That is, whatever decision is made by Morris should be one that he would want others in his position to take in similar situations for similar reasons. In other words, Morris may be establishing a firm policy on this issue and setting a tone for other staff members based on how he handles the dating relationship between Giles and Regas. Whichever option he chooses, it is important for Morris and the firm to realize that consistent action should follow when others are involved in similar situations. Another important element of the decision is that Regas may believe that her rights are violated if she is "forced" to resign or is terminated from employment with the accounting firm. This could be a particularly sensitive issue if her performance meets or exceeds all of the firm's standards for its senior staff members. If Regas believes she has been wrongly fired, she may seek legal recourse against the firm for its action. Justice Theory: There are many issues to consider from a justice perspective in evaluating the two alternative courses of action. First, if Morris does, in fact, establish a firm policy with his decision, as suggested above, then the new policy should treat all staff members fairly. For example, let's assume that Regas is fired because Giles is a partner with an ownership interest in the firm. Then, if another situation develops where a manager dates a senior, the employees involved and other staff members may expect that the senior will be fired regardless of that person's gender. Otherwise, some staff members may come to believe that the firm discriminates in enforcing its policy. Specifically, if the manager is a woman and the senior is a man, the justice theory requires that the man should be fired because he is of lower rank in the firm. The firm must also be sensitive to fact that this situation could turn into a sexual harassment matter. On the other hand, the fairer approach may be to terminate the employee who has contributed less to the firm's success in terms of performance and client service. Future potential also could be considered. For example, let's assume that the other partners dislike Giles because he is known to become involved in situations that compromise the firm's position. If Regas is a highly productive member of the firm who is well liked by the partners, other staff members and clients, then it could be that Regas should remain with the firm and Giles asked to resign. Another important issue related to justice is the reaction of other staff members to Morris' decision. If the other staff members believe that Regas is being signaled out as the scapegoat in this situation, then the morale of the staff may be negatively affected. The way that the decision is perceived by other staff members may directly affect their view of the fairness of the decision. This is particularly relevant in the case because Regas appears to be the one who has exercised proper judgment and Giles seems to be putting undue pressure on Regas and, perhaps, taking advantage of his position and influence in the firm. Other staff members may come to resent a decision that demonstrates favoritism toward Giles, regardless of the circumstances. When Morris meets with Giles he should be honest and candid regarding the position of the other partners. Morris should fully disclose the client's concerns and those of the firm, especially as it pertains to the possible higher level of billings and violation of firm policy. The way in which Giles reacts to the statements of Morris and his expression of concern for the firm's interests and those of the client may be an important consideration in Morris' decision. One factor that was previously mentioned and that should have a significant bearing on the firm's decision is the contribution of Giles and Regas to the welfare of the firm and its clients. One might say Giles was acting on which ethical theory? A. Utilitarianism B. Deontology C. Virtue D. Teleology/egoism

D. Teleology/egoism

4. The Ethical Dissonance Model helps to evaluate: A. Whether the organization sets an ethical tone at the top B. Whether the organization has ethical leadership C. Whether the organization has a whistle-blowing process D. Whether the organization's ethics aligns with individual ethics

D. Whether the organization's ethics aligns with individual ethics

An example of fraudulent financial statements is:

Misrepresentation of events, transactions, and other significant events in the financial statements

The PCAOB addresses audit results and require the: a. Auditor's evaluation of internal controls b. Auditor's determination of whether the auditor has obtained sufficient appropriate evidence c. Auditor's evaluation of the applicable financial reporting framework d. Auditor's independence

b

Which of the following is not one of the reporting standards of GAAS that guides auditors in formulating the audit opinion? a. The financial statements have followed GAAP b. Consistency in the application of GAAP c. Adequate disclosures exist in the statements d. Gathering sufficient audit evidence to warrant an opinion

d

3. Which of the following authors(s) link earnings management to choices made in determining earnings that may comprise aggressive, but acceptable, accounting estimates and judgments, as compared to fraudulent practices that are clearly intended to deceive others? A. Dechow and Skinner Healy and Wahlen Schipper Thomas E. McKee

A. Dechow and Skinner

20. In the Loyalty to the Boss case, what is the primary ethical issue? A. Recording sales that lack economic substance B. Capitalizing expenses as inventory C. Bill and hold revenue recognition D. Releasing cookie jar reserves to smooth income

B. Capitalizing expenses as inventory

2. An accountant who blows the whistle on financial wrongdoing by his/her employer by going outside the entity violates: A. The due care principle B. Confidentiality C. One's reliability obligation D. Public interest obligation

B. Confidentiality

7. Deloitte suggests the quality of earnings from the audit perspective should consider all of the following except: Consider earnings components in relation to the earnings continuum B. Consider large variances in an accounting estimates compared with actual determined amounts Understand the sources of earnings Be familiar with press coverage regarding financial performance

B. Consider large variances in an accounting estimates compared with actual determined amounts

7. [The following information applies to the questions displayed below.] Ed Giles and Susan Regas have never been happier than during the past four months since they have been seeing each other. Giles is a 35-year-old CPA and a partner in the medium-sized accounting firm of Saduga & Mihca. Regas is a 25-year-old senior accountant in the same firm. Although it is acceptable for peers to date, the firm does not permit two members of different ranks within the firm to do so. A partner should not date a senior in the firm any more than a senior should date a junior staff accountant. If such dating eventually leads to marriage, then one of the two must resign because of the conflicts of interest. Both Giles and Regas know the firm's policy on dating, and they have tried to be discreet about their relationship because they don't want to raise any suspicions. While most of the staff seem to know about Giles and Regas, it is not common knowledge among the partners that the two of them are dating. Perhaps that is why Regas was assigned to work on the audit of CAA Industries for a second year, even though Giles is the supervising partner on the engagement. As the audit progresses, it becomes clear to the junior staff members that Giles and Regas are spending personal time together during the workday. On one occasion, they were observed leaving for lunch together. Regas did not return to the client's office until three hours later. On another occasion, Regas seemed distracted from her work, and later that day, she received a dozen roses from Giles. A friend of Regas's who knew about the relationship, Ruth Revilo, became concerned when she happened to see the flowers and a card that accompanied them. The card was signed, "Love, Poochie." Regas had once told Revilo that it was the nickname that Regas gave to Giles. Revilo pulls Regas aside at the end of the day and says, "We have to talk." "What is it?" Regas asks. "I know the flowers are from Giles," Revilo says. "Are you crazy?" "It's none of your business," Regas responds. Revilo goes on to explain that others on the audit engagement team are aware of the relationship between the two. Revilo cautions Regas about jeopardizing her future with the firm by getting involved in a serious dating relationship with someone of a higher rank. Regas does not respond to this comment. Instead, she admits to being distracted lately because of an argument that she had with Giles. It all started when Regas had suggested to Giles that it might be best if they did not go out during the workweek because she was having a hard time getting to work on time. Giles was upset at the suggestion and called her ungrateful. He said, "I've put everything on the line for you. There's no turning back for me." She points out to Revilo that the flowers are Giles's way of saying he is sorry for some of the comments he had made about her. Regas promises to talk to Giles and thanks Revilo for her concern. That same day, Regas telephones Giles and tells him she wants to put aside her personal relationship with him until the CAA audit is complete in two weeks. She suggests that, at the end of the two-week period, they get together and thoroughly examine the possible implications of their continued relationship. Giles reluctantly agrees, but he conditions his acceptance on having a "farewell" dinner at their favorite restaurant. Regas agrees to the dinner. Giles and Regas have dinner that Saturday night. As luck would have it, the controller of CAA Industries, Mark Sax, is at the restaurant with his wife. Sax is startled when he sees Giles and Regas together. He wonders about the possible seriousness of their relationship, while reflecting on the recent progress billings of the accounting firm. Sax believes that the number of hours billed is out of line with work of a similar nature and the fee estimate. He had planned to discuss the matter with Herb Morris, the managing partner of the firm. He decides to call Morris on Monday morning. "Herb, you son of a gun, it's Mark Sax." "Mark. How goes the audit?" "That's why I'm calling," Sax responds. "Can we meet to discuss a few items?" "Sure," Morris replies. "Just name the time and place." "How about first thing tomorrow morning?" asks Sax. "I'll be in your office at 8:00 a.m.," says Morris. "Better make it at 7:00 a.m., Herb, before your auditors arrive." Sax and Morris meet to discuss Sax's concerns about seeing Giles and Regas at the restaurant and the possibility that their relationship is negatively affecting audit efficiency. Morris asks whether any other incidents have occurred to make him suspicious about the billings. Sax says that he is only aware of this one instance, although he sensed some apprehension on the part of Regas last week when they discussed why it was taking so long to get the audit recommendations for adjusting entries. Morris listens attentively until Sax finishes and then asks him to be patient while he sets up a meeting to discuss the situation with Giles. Morris promises to get back to Sax by the end of the week. Ethical and Professional Issues Giles and Regas have put themselves in a position where their work product may suffer as a result of their relationship. It appears that this already has occurred since Mark Sax, the controller of CAA Industries, has expressed his concerns to Herb Morris, the managing partner of the local office of the firm that the delay in audit completion and high level of billings may be due to distractions resulting from the relationship. The reliability of Giles and Regas seems to be questioned by Sax. An important ethical concern is the conflict of interest that Giles may have if, for example, he determines that Regas is not adequately carrying out her responsibilities. Giles could have a difficult time dealing with this situation in the same way that he would handle a situation that involved a staff member with whom his relationship is solely professional. Moreover, the audit manager is in a sensitive position because he or she may know of the relationship and hesitate to treat Regas the same way other staff members are treated because Giles is the manager's superior. A conflict of interest tends to cloud one's judgment as to what is the right thing to do. It makes it more difficult for a supervisor to be impartial. Even the appearance of a conflict can harm the image of the professional. It has been said that the best way to handle a conflict of interest is not to become involved in one in the first place. This is why the codes of conduct of professional accounting associations preclude members from engaging in activities that can create such a conflict. The Principle of Objectivity in the AICPA Code requires that: A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. The ethical standard of Integrity in IMA Code states that: Management accountants have a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict. The firm's policy on dating seems to be appropriate. It is designed to avoid compromising client relations and audit efficiency. The profession sets high standards of conduct to guide its members in relationships with clients, suppliers, customers and others who can influence the decision-making process. These same high standards should be aspired to by all CPAs in dealing with members of their organization and other professionals. Giles and Regas are not acting in a professional manner. They seem to know this because in the last sentence of the first paragraph it states that they "have tried to be discreet about their relationship because they don't want to create any suspicions." If they truly felt comfortable with their relationship, then they would have nothing to hide. However, their actions violate firm policy and this is undoubtedly why they are being discreet. It appears from the facts of the case that Giles is more responsible than Regas for the tension on the CAA Industries audit. To begin with, he never should have allowed Regas to serve as the senior on the audit since he is the supervising partner on the engagement. Perhaps he allowed her to work on the audit because to do otherwise might have aroused suspicions about a possible relationship between the two of them. Giles also seems to have created stress for Regas by his inappropriate comment: "There's no turning back for me." This type of comment can only add to the pressure Regas feels, given that her work is scrutinized by Giles. The result may be to negatively affect audit efficiency. Although Regas' involvement in the relationship should not be dismissed, she does seem to recognize the dangers and ultimately makes a decision to put aside their relationship in the interests of completing the audit. Rather than simply honoring her request not to date for two weeks, Giles conditions his agreement on a "farewell" dinner. This is not a very caring and considerate thing to do and it demonstrates selfishness on the part of Giles. In fact, the dinner is the event that brings matters out in the open because Mark Sax now suspects that their relationship may be affecting completion of the audit. The direct involvement of the client puts the firm in a very difficult position, one that Herb Morris will have to deal with at the meeting with Giles. Ethical Analysis The decision to be made by Herb Morris can be analyzed using ethical reasoning. The stakeholders affected by Morris' decision include: Giles and Regas; the accounting firm; other staff members of the firm and its partners; CAA Industries and other clients that might be affected by the decision; and Mark Sax. Utilitarian Theory: From a utilitarian perspective, Morris should weigh the consequences of alternative courses of action. The alternatives and an evaluation of the potential benefits and harms of each course of action follow. Permit Giles and Regas to complete the audit, but ask one of them to resign thereafter. It is not practical to remove Giles or Regas from an audit that should be completed in about two weeks. The decision already has been made to put aside their relationship until the CAA audit is completed. This seems to be the best option from both the accounting firm's position and that of the client. All stakeholders seem to benefit from allowing Giles and Regas to fulfill their audit responsibilities under act utilitarianism. The second part of this option is more troubling in that it is difficult to determine who should be asked to resign. It is an issue of fairness and due care. On the surface it may appear that Regas should be asked to resign because of Giles' position in the firm. However, this may not be in the best interests of the firm and other clients who may be very satisfied with the work of Regas. These stakeholders could be harmed by a decision that leads to the resignation of a valued member of the firm, and one with excellent future prospects. While the facts of the case are silent on this issue, it is an important one for Morris to consider. Clearly, he should meet with the other partners before making a decision. Any decision to remove Giles from the partnership is likely to be an expensive one for the firm since it will have to buyout Giles' ownership interest. Permit Giles and Regas to complete the audit and allow both of them to continue with the firm. If both Giles and Regas are allowed to continue with the firm, then other staff members may start to wonder whether there are any consequences of violating firm policy. This is likely to be a particularly sensitive issue since some staff members on the CAA audit already suspect that the relationship is affecting the performance of Regas. Additionally, Mark Sax is aware of the situation and has expressed CAA's concern about the effect the relationship may be having on audit billings. On the other hand, Morris may believe that a warning is sufficient to protect the firm's interests and those of the client, especially since the firm's policy only requires one of the two to resign if marriage is eventually planned. It may be that the best option is to give them another chance but take measures to prevent them from serving together on any audits in the future. Rights Theory: From a rights approach, the most important issue is that of universality. That is, whatever decision is made by Morris should be one that he would want others in his position to take in similar situations for similar reasons. In other words, Morris may be establishing a firm policy on this issue and setting a tone for other staff members based on how he handles the dating relationship between Giles and Regas. Whichever option he chooses, it is important for Morris and the firm to realize that consistent action should follow when others are involved in similar situations. Another important element of the decision is that Regas may believe that her rights are violated if she is "forced" to resign or is terminated from employment with the accounting firm. This could be a particularly sensitive issue if her performance meets or exceeds all of the firm's standards for its senior staff members. If Regas believes she has been wrongly fired, she may seek legal recourse against the firm for its action. Justice Theory: There are many issues to consider from a justice perspective in evaluating the two alternative courses of action. First, if Morris does, in fact, establish a firm policy with his decision, as suggested above, then the new policy should treat all staff members fairly. For example, let's assume that Regas is fired because Giles is a partner with an ownership interest in the firm. Then, if another situation develops where a manager dates a senior, the employees involved and other staff members may expect that the senior will be fired regardless of that person's gender. Otherwise, some staff members may come to believe that the firm discriminates in enforcing its policy. Specifically, if the manager is a woman and the senior is a man, the justice theory requires that the man should be fired because he is of lower rank in the firm. The firm must also be sensitive to fact that this situation could turn into a sexual harassment matter. On the other hand, the fairer approach may be to terminate the employee who has contributed less to the firm's success in terms of performance and client service. Future potential also could be considered. For example, let's assume that the other partners dislike Giles because he is known to become involved in situations that compromise the firm's position. If Regas is a highly productive member of the firm who is well liked by the partners, other staff members and clients, then it could be that Regas should remain with the firm and Giles asked to resign. Another important issue related to justice is the reaction of other staff members to Morris' decision. If the other staff members believe that Regas is being signaled out as the scapegoat in this situation, then the morale of the staff may be negatively affected. The way that the decision is perceived by other staff members may directly affect their view of the fairness of the decision. This is particularly relevant in the case because Regas appears to be the one who has exercised proper judgment and Giles seems to be putting undue pressure on Regas and, perhaps, taking advantage of his position and influence in the firm. Other staff members may come to resent a decision that demonstrates favoritism toward Giles, regardless of the circumstances. When Morris meets with Giles he should be honest and candid regarding the position of the other partners. Morris should fully disclose the client's concerns and those of the firm, especially as it pertains to the possible higher level of billings and violation of firm policy. The way in which Giles reacts to the statements of Morris and his expression of concern for the firm's interests and those of the client may be an important consideration in Morris' decision. One factor that was previously mentioned and that should have a significant bearing on the firm's decision is the contribution of Giles and Regas to the welfare of the firm and its clients. Herb Morris should probably make his decision about what to do regarding Giles and Regas using what theory? A. Deontology B. Justice C. Virtue D. Teleology

B. Justice

Which of the following is NOT one of the defenses an auditor can use against third party lawsuits for fraud?

A. The third party was not in contractual privity

24. Auditors are responsible to detect and correct errors when they are: A. Material B. Material or immaterial C. Due to an illegal act D. Management fails to correct for the error

A. Material

56. XYZ Company requires that its internal auditor must bring all accounting and financial reporting matters of concern to the CFO and CEO before going to the audit committee. The weakness in internal controls is most likely to lead to which element of the fraud triangle when instances of fraud occur A. Pressure B. Opportunity C. Rationalization D. Professional skepticism

A. Pressure

The objective of an engagement quality review is to:

Assess how an audit has been conducted and the firm's own quality control procedures

13. The section of SOX that requires management to prepare a report on its internal controls is: Section 302 B. Section 404 Section 808 Section 10A(b)

B. Section 404

10. External auditor communications with the audit committee include each of the following except: A. Matters related to why certain accounting policies are considered critical B. Shareholder returns C. Significant estimates made by management D. Significant unusual transactions

B. Shareholder returns

When courts find accountants liable for constructive fraud, the implication is that:

C. Accountants may be liable for fraud even when they had no knowledge of deceit

1. Professional skepticism can best be defined as having: A. An inquiring mind and deliberate decision making B. Deliberate decision making and suspension of belief C. An inquiring mind and suspension of belief D. Careful observation and virtue-based decision making

C. An inquiring mind and suspension of belief

14. Which of the following was NOT one of the schemes used by Beazer Homes to manipulate its earnings? Improper recording of revenue on sale-leaseback transactions Fraudulently increased land inventory expense accounts to reduce earnings Over-reserving of house cost-to-complete expenses to increase reported earnings in earlier periods D. Recording revenue from roundtrip transactions prematurely

D. Recording revenue from roundtrip transactions prematurely

5. Objectivity requires that a CPA should: A. Maintain a mental attitude of intellectual honesty and independence B. Maintain a mental attitude of intellectual honesty and impartiality C. Act in accordance with the best interests of one's client D. Act in accordance with the best interests of one's employer

B. Maintain a mental attitude of intellectual honesty and impartiality

14. Required Information Refer to Question 13. Menendez was excluded from a meeting on accounting for a potential joint venture arrangement. This is a violation of which of the following? A. Dodd-Frank B. Sarbanes-Oxley C. The RICO Racketeer Influenced and Corrupt Organizations Act D. The CPA Code of Professional Conduct

B. Sarbanes-Oxley

16. Gabby has just left a meeting with the partner in charge of an audit engagement and was told to ignore the typical year-end accrual entries because earnings are below financial analysts' earnings expectations. Gabby knows this is wrong and wants to act on her values but she does not want to lose her job. What is the best thing for Gabby to do in this situation if she chooses to voice her values? A. Quit the firm B. Speak with the managing partner of the firm C. Inform the SEC of the difference D. All of the above

B. Speak with the managing partner of the firm

16. Internal rewards of accounting practice include: A. Wealth and prestige B. Success and power C. Integrity and Excellence D. Achievement and notoriety

C. Integrity and Excellence

19. Internal rewards of accounting practice include: A. Wealth and prestige B. Success and power C. Integrity and excellence D. Achievement and notoriety

C. Integrity and Excellence

15. Virtue ethics emphasizes the development of good habits of character. What should be the greatest reward of practicing good habits of character, according to MacIntyre? A. External rewards B. Loyalty from others C. Internal rewards D. Authority of rules

C. Internal Rewards

15. Assume your values conflict with what you are being asked to do. Under the Giving Voice to Values methodology which of the following statements reflects the thought process you might have in developing a game plan to voice your values? A. Use philosophical ethical theories to reason through alternative courses of action B. Use the ethical decision making model to evaluate the ethics of the situation C. Reflect on the objections that might be raised to your intended expressed views D. Use Systems 2 thinking to decide on a course of action

C. Reflect on the objections that might be raised to your intended expressed views

10. [The following information applies to the questions displayed below.] Jose and Emily work as auditors for the state of Texas. They have been assigned to the audit of the Lone Star School District. There have been some problems with audit documentation for the travel and entertainment reimbursement claims of the manager of the school district. The manager knows about the concerns of Jose and Emily, and he approaches them about the matter. The following conversation takes place: Manager: Listen, I've requested the documentation you asked for, but the hotel says it's no longer in its system. Jose: Don't you have the credit card receipt or credit card statement? Manager: I paid cash. Jose: What about a copy of the hotel bill? Manager: I threw it out. Emily: That's a problem. We have to document all your travel and entertainment expenses for the city manager's office. Manager: Well, I can't produce documents that the hotel can't find. What do you want me to do? The manager seems to be failing in regard to which Pillar of Character? A. Caring B. Respect C. Responsibility D. Fairness

C. Responsibility

5. [The following information applies to the questions displayed below.] Occupational fraud comes in many shapes and sizes. The fraud at Rite Aid is one such case. In February 2015, Findling pleaded guilty to charges of conspiracy to commit wire fraud. Foster pleaded guilty to making false statements to authorities. On November 16, 2016, Foster was sentenced to five years in prison and Findling, four years. Findling and Foster were ordered to jointly pay $8,034,183 in restitution. Findling also forfeited and turned over an additional $11.6 million to the government at the time he entered his guilty plea. In sentencing Foster, U.S. Middle District Judge John E. Jones III expressed his astonishment that in one instance at Rite-Aid headquarters, Foster took a multimillion dollar cash pay-off from Findling, then stuffed the money into a bag and flew home on Rite Aid's corporate jet. The charges relate to a nine-year conspiracy to defraud Rite Aid by lying to the company about the sale of surplus inventory to a company owned by Findling when it was sold to third parties for greater amounts. Findling would then kick back a portion of his profits to Foster. Foster's lawyer told Justice Jones that, even though they conned the company, the efforts of Foster and Findling still earned Rite Aid over $100 million "instead of having warehouses filled with unwanted merchandise." Assistant U.S. Attorney Kim Daniel focused on the abuse of trust by Foster and persistent lies to the feds. "The con didn't affect some faceless corporation, Daniel said, "but harmed Rite Aid's 89,000 employees and its stockholders." Findling's attorney, Kevin Buchan, characterized his client as "a good man who made a bad decision." "He succumbed to the pressure. That's why he did what he did and that's why he's here," Buchan said during sentencing. Findling admitted he established a bank account under the name "Rite Aid Salvage Liquidation" and used it to collect the payments from the real buyers of the surplus Rite Aid inventory. After the payments were received, Findling would Page send lesser amounts dictated by Foster to Rite Aid for the goods, thus inducing Rite Aid to believe the inventory had been purchased by J. Finn Industries, not the real buyers. The government alleged Findling received at least $127.7 million from the real buyers of the surplus inventory but, with Foster's help, only provided $98.6 million of that amount to Rite Aid, leaving Findling approximately $29.1 million in profits from the scheme. The government also alleged that Findling kicked back approximately $5.7 million of the $29.1 million to Foster. Assume you are the director of internal auditing at Rite Aid and discover the surplus inventory scheme. You know that Rite Aid has a comprehensive corporate governance system that complies with the requirements of Sarbanes-Oxley, and the company has a strong ethics foundation. Moreover, the internal controls are consistent with the COSO framework. Explain the steps you would take to determine whether you would blow the whistle on the scheme applying the requirements of AICPA Interpretation 102-4 that are depicted in Exhibit 3.11. In that regard, answer the following questions. To encourage various groups to come forward and report fraud, Dodd-Frank extended whistle-blowing privileges and rewards to which of the following? A. Internal auditors B. External auditors C. The CEO D. All of these are correct.

C. The CEO

10. [The following information applies to the questions displayed below.] Summary of the Case* On September 25, 2012, Japanese camera and medical equipment maker Olympus Corporation and three of its former executives pleaded guilty to charges related to an accounting scheme and cover-up in one of Japan's biggest corporate scandals. Olympus admitted that it tried to conceal investment losses by using improper accounting under a scheme that began in the 1990s. The scandal was exposed in 2011 by Olympus's then-CEO, Michael C. Woodford. As the new President of Olympus, he felt obliged to investigate the matter and uncovered accounting irregularities and suspicious deals involving the acquisition of UK medical equipment manufacturer Gyrus. He called the company's auditors, PwC, to report it. The firm examined payments of $687 million related to financial advice on the acquisition paid to a non-existent Cayman Islands firm. A fraud of $1.7 billion emerged, including an accounting scandal to hide the losses. Along the way, the Japanese way of doing business came under attack by Woodford. Olympus initially said that it fired Woodford, one of a handful of foreign executives at top Japanese companies, over what it called his aggressive Western management style. Woodford disclosed internal documents to show he was dismissed after he raised questions about irregular payouts related to mergers and acquisitions. Without any serious attempt by management to investigate, he went behind the board's back and commissioned a report by PwC into the Gyrus deal, including the unusually high advisory fee and apparent lack of due diligence. On October 11, 2011, he circulated the report to the board and called on chair of the board, Tsuyoshi Kikukawa, and executive vice president, Hisashi Mori, to resign. Three days later, the board fired Woodford. Ultimately, the accounting fraud was investigated by the Japanese authorities. "The full responsibility lies with me and I feel deeply sorry for causing trouble to our business partners, shareholders, and the wider public," Kikukawa, told the Tokyo district court. "I take full responsibility for what happened." Prosecutors charged Kikukawa, Mori, and a former internal auditor, Hideo Yamada, with inflating the company's net worth in financial statements for five fiscal years up to March 2011 due to accounting for risky investments made in the late-1980s bubble economy. The three former executives had been identified by an investigative panel, commissioned by Olympus, as the main suspects in the fraud. In December 2011, Olympus filed five years' worth of corrected financial statements plus overdue first-half results, revealing a $1.1 billion hole in its balance sheet. On April 28, 2017, following six years of scandal-ridden disclosures, a Tokyo court found Kikukawa and five others liable for $529 million. Kikukawa and two other executives who pleaded guilty never went to jail. Instead, they were given suspended sentences of up to three years. Olympus Spent Huge Sums on Inflated Acquisitions, Advisory Fees to Conceal Investment Losses Olympus's cover-up of massive losses has shed light on several murky methods that some companies employed to clean up the mess left after Japan's economic bubble burst. Many companies turned to speculative investments as they suffered sluggish sales and stagnant operating profits. The company used "loss-deferring practices" to make losses look smaller on the books by selling bad assets to related companies. To take investment losses off its books, Olympus spent large sums of money to purchase British medical equipment maker Gyrus Group PLC and three Japanese companies and paid huge consulting fees. Olympus is suspected of having deliberately acquired Gyrus at an inflated price, and in the year following the purchases, it booked impairment losses as a result of decreases in the companies' value. To avert a rapid deterioration of its financial standing, Olympus continued corporate acquisitions and other measures for many years, booking impairment losses to improve its balance sheet. Losses on the purchases of the three Japanese companies amounted to $34.5 billion. With money paid on the Gyrus deal included, Olympus may have used more than $62.5 billion in funds for past acquisitions to conceal losses on securities investments. The previous method that recorded stocks and other financial products by book value—the price when they were purchased—was abolished. The new method listed them by market value (mark-to-market accounting). Under this change, Olympus had to report all the losses in its March 2001 report. However, Olympus anticipated this change a year in advance and posted only about $10.6 billion of the nearly $62.5 billion yen as an extraordinary loss for the March 2000 settlement term. The company did not post the remainder as a deficit; rather, it deferred it using questionable measures. Olympus's Tobashi Scheme At the heart of Olympus's action, was a once-common technique to hide losses called tobashi, which Japanese financial regulators tolerated before clamping down on the practice in the late 1990s. Tobashi, translated loosely as "to blow away," enables companies to hide losses on bad assets by selling those assets to other companies, only to buy them back later through payments, often disguised as advisory fees or other transactions, when market conditions or earnings improve. Tobashi allows a company with the bad assets to mask losses temporarily, a practice banned in the early 2000s. The idea is that you pay off the losses later, when company finances are better. Olympus appears to have pushed to settle its tobashi amounts from 2006 to 2008, when the local economy was picking up and corporate profits rebounding, in an effort to "clean up its act." Business was finally strong enough to be able to withstand a write-down. It was during those years that the company engineered the payouts that came under scrutiny: $687 million in fees to an obscure financial adviser over Olympus's acquisition of Gyrus in 2008, a fee that was roughly a third of the $2 billion acquisition price, more than 30 times the norm. Olympus also acquired three small Japanese companies from 2006 to 2008 with little in common with its core business for a total of $773 million, only to write down most of their value within the same fiscal year. Olympus Scandal Raises Questions about the "Japan Way" of Doing Business The scandal rocked corporate Japan, not least because of the company's succession of firings, denials, admissions, and whistleblowing. It also exposed weaknesses in Japan's financial regulatory system and corporate governance. "This is a case where Japan's outmoded practice of corporate governance remained and reared its ugly head," according to Shuhei Abe, president of Tokyo-based Sparx Group Company. "With Olympus's case, it will no longer be justifiable for Japan Inc. to continue practicing under the excuse of the 'Japan way of doing things.'" On the surface, Olympus seemed to have checks on its management. For example, it hired directors and auditors from outside the company, as well as a British president who was not tied to corporate insiders. In reality, however, the company's management was ruled by former chairman Kikukawa and a few other executives who came from its financial sections. The company's management is believed to have been effectively controlled by several executives who had a background in financial affairs, including Kikukawa and Mori, both of whom were involved in the cover-up of past losses. Olympus's board of auditors, which is supposed to supervise the board of directors, includes full-time auditor Hideo Yamada, who also had financial expertise. After Woodford made his allegations, he was confronted by a hostile board of directors that acted based on the premise that whistleblowing offended their corporate culture. Subsequently, the board fired him saying that he had left because of "differences in management styles." Employees were warned not to speak to them or jeopardize their careers. One problem with corporate governance in Japan is truly independent non-executive directors are unusual. Many Japanese do not see the need for such outside intervention. They question how outsiders can know enough about the company to make a valuable contribution. Moreover, how could they be sensitive to the corporate culture? They could even damage the credibility of the group. Accounting Explanations Olympus hid a $1.7 billion loss through an intricate array of transactions. A one paragraph summary of what it did appears in the investigation report: The lost disposition scheme is featured in that Olympus sold the assets that incurred loss to the funds set up by Olympus itself, and later provided the finance needed to settle the loss under the cover of the company acquisitions. More specifically, Olympus circulated money either by flowing money into the funds by acquiring the entrepreneurial ventures owned by the funds at the substantially higher price than the real values, or by paying a substantially high fees to the third party who acted as the intermediate in the acquisition, resulting in recognition of large amount of goodwill, and subsequently amortized goodwill recognized impairment loss, which created substantial loss. Here is a more understandable version of the event: Olympus indirectly loaned money to an off-the-books subsidiary and then sold the investments that had the huge losses to the subsidiary at historical cost, eventually paying a huge premium to buy some other small companies and writing off the underwater investments as if they were goodwill impairments. A more detailed bookkeeping analysis of the complicated transactions appears in Exhibit 1. Auditor Responsibilities Arthur Andersen was the external auditor through March 31, 2002, after which Andersen closed its doors for good in the post-Enron era. Then KPMG AZSA LLC was the auditor through March 31, 2009. The 2010 and 2011 fiscal years were audited by Ernst & Young ShinNihon LLC. The investigative report noted that the fraud was hidden quite well. Three banks were involved in hiding information from the auditors. The summary report said that all three of them agreed not to tell auditors the information that would normally be provided on an audit confirmation. KPMG did come across one of the tobashi schemes carried out through one of the three different routes that had been set up. According to the investigative report: Not everything was going smoothly. The report said that in 1999, Olympus's then-auditor, KPMG AZSA LLC, came across information that indicated the company was engaged in tobashi, which recently had become illegal in Japan. Mori and Yamada initially denied KPMG's assertion, but the auditor pushed them that same year to admit to the presence of one fund and unwind it, booking a loss of $10.5 billion. The executives assured KPMG that that was the only such deal, the report said. One KPMG audit team did find part of the scheme in 1999. Management lied by denying that it even existed. After agreeing to write it off, Olympus senior management lied again, saying that it was the only one. But the scheme expanded, without detection, for another six years or so and was in place, without detection, until the last component was unwound at the end of fiscal year 2010. The last part of the bad investments was finally written off in March 2011. Olympus Finally Had Enough of the Deception Olympus removed KPMG AZSA as its group auditor in 2009 after a dispute over how to account for some controversial acquisitions. The camera-maker decided not to disclose this to the stock market. Instead, Olympus told investors at the time that KPMG's audit contract had expired and it was hiring Ernst & Young. Mori and Yamada had finally decided to unwind and write off the underwater financial assets and repay the loans that it had made through its unconsolidated subsidiary. Of course, by then, the financial press had gotten wind of what was going on at Olympus. *The facts of this case are drawn from: Michael Woodford, Exposure: Inside the Olympus Scandal: How I went from CEO to Whistleblower, (NY: Penguin Books, 2012). EXHIBIT 1 Detailed Bookkeeping Analysis of Olympus's Accounting Fraud* PHASE 1 Transaction 1: This is a summary of a complex move—it involved making a CD deposit at several banks that were asked to loan the money back to an unrelated entity, with the CD as collateral, so the subsidiary can buy investments from Olympus. Note: According to the investigative committee's report, three banks were involved through the course of the whole project: Commerzbank, LGT, and Société Générale. The committee's report indicates that all three banks agreed to Olympus's request not to tell the auditors about the CDs being collateral for a loan. (Olympus books) DR Certificate of depositCR Cash(CD purchase at banks; banks loan it to unconsolidated subsidiary) (Unconsolidated subsidiary books) DR CashCR Note payable to banks(Cash from banks; collateralized by Olympus) Transaction 2: (Olympus books) DR CashCR Financial assets (Investments)(Proceeds from selling underwater investments to unconsolidated subsidiary; may have triggered gain on sale) (Unconsolidated subsidiary books) DR Financial assets (Investments)CR Cash(To buy underwater investments from Olympus) PHASE 2 Eventually the CDs would have to be rolled over and brought back. In addition, the unrealized losses would have to be written down eventually, so the second phase was launched. Transaction 3: Olympus bought some tiny (startup) companies. They paid significantly more than they were worth and paid large amounts for consultants for their service as finders and intermediaries. (Olympus books)DR Investments (startup subsidiary)DR Goodwill—(cash paid less fair market value of subsidiary net assets)CR Cash(Investments in new subsidiaries) Note: The investment in the consolidated subsidiary shows a large amount of goodwill, which could then be written down. (Entries by the newly formed consolidated subsidiary)DR CashCR Common stock(Cash investment from Olympus) Transaction 4: The effect of these transactions was to transfer money into the newest consolidated subsidiary, which used the money to buy the bad investments from the older, unconsolidated subsidiary. The unconsolidated subsidiary then repaid the note payable to the bank and Olympus liquidated its CD. (Entries by the newly formed consolidated subsidiary)DR Financial assets (Investments)CR Cash(Buy underwater investments from unconsolidated subsidiary at book value) (Unconsolidated subsidiary books) DR Cash (from consolidated subsidiary).CR Financial assets (Investments)(Proceeds received from consolidated subsidiary from sale of underwater investments)DR Note payable to banksCR Cash(Repay loan to banks) Entries by OlympusDR CashCR Certificate of deposit(CD liquidated) A good video that discusses the basic facts of the case, the role of Michael Woodford, corporate governance, and efforts of PwC is at: https://www.youtube.com/watch?v=bXawS6pYt0g An update of the legal settlement by Olympus of the fraud can be found at: http://www.law360.com/articles/638729/olympus-to-pay-investors-92m-over-alleged- Perhaps the most unusual thing about this case is that _______________. A. The fraud went undetected for so long B. Three sets of different external auditors were involved during the fraud C. The CEO turned whistleblower D. The fine was relatively light: only $92 million to settle with institutional investors

C. The CEO turned whistleblower

14. The most important duty of public accounting is to the: A. Securities Exchange Commission B. Current stockholders C. Management D. Investing public

D. Investing Public

18. Which of the following is NOT an element of the corporate governance system? A. Board of directors B. Internal controls C. Executive compensation policies D. Monitoring by top management

D. Monitoring by top management

17. In the Medicis audit, the auditors failed to complete all of the following except: A. Failed to issue an unqualified opinion Failed to follow GAAS Failed to correct control deficiencies Failed to obtain adequate evidence related to management representations

A. Failed to issue an unqualified opinion

The key element that protects an auditor against common law liability is: Adherence to generally accepted accounting principles (GAAP) Adherence to generally accepted auditing standards (GAAS) Compliance with threats and safeguards approach Maintain confidentiality of client information

Adherence to generally accepted auditing standards (GAAS)

60. The primary issue discussed in the Krispy Kreme case was: A. Use of special-purpose-entities to keep debt off the books B. Use of "round trip" transactions to accelerate the recording of earnings C. Internal controls over operating activities D. Internal controls over the making of doughnuts

B. Use of "round trip" transactions to accelerate the recording of earnings

44. Which is not part of the required links of the chain of command that the controller should follow to inform of a material misstatement in the financial statements? A. Audit Committee of Board of Directors B. CEO C. External auditor D. CFO

C. External auditor

When an auditor acts so carelessly in the application of professional standards that it implies a reckless disregard for the standards of due care is referred to as:

C. Constructive fraud

11. Which of the following is NOT one of the communications that should be made by external auditors to the audit committee? Accounting estimates Threats to auditor independence and related safeguards to mitigate those threats Significant deficiencies in audit procedures The nature and scope of significant assumptions

C. Significant deficiencies in audit procedures

9. Background For years, Dell's seemingly magical power to squeeze efficiencies out of its supply chain and drive down costs made it a darling of the financial markets. Now we learn that the magic was at least partly the result of a huge financial illusion. On July 22, 2010, Dell agreed to pay a $100 million penalty to settle allegations by the SEC that the company had "manipulated its accounting over an extended period to project financial results that the company wished it had achieved." According to the commission, Dell would have missed analysts' earnings expectations in every quarter between 2002 and 2006 were it not for its accounting shenanigans. This involved a deal with Intel, a big microchip maker, under which Dell agreed to use Intel's central processing unit chips exclusively in its computers in return for a series of undisclosed payments, locking out Advanced Micro Devices (AMD), a big rival. The SEC's complaint said that Dell had maintained cookie-jar reserves using Intel's money that it could dip into to cover any shortfalls in its operating results. The SEC said that the company should have disclosed to investors that it was drawing on these reserves, but it did not. And it claimed that, at their peak, the exclusivity payments from Intel represented 76 percent of Dell's quarterly operating income, which is a shocking figure. The problem arose when Dell's quarterly earnings fell sharply in 2007 after it ended the arrangement with Intel. The SEC alleged that Dell attributed the drop to an aggressive product-pricing strategy and higher-than-expected component prices, when the real reason was that the payments from Intel had dried up. The accounting fraud embarrassed the once-squeaky-clean Michael Dell, the firm's founder and CEO. He and Kevin Rollins, a former top official of the company, agreed to each pay a $4 million penalty without admitting or denying the SEC's allegations. Several senior financial executives at Dell also incurred penalties. "Accuracy and completeness are the touchstones of public company disclosure under the federal securities laws," said Robert Khuzami of the SEC's enforcement division when announcing the settlement deal. "Michael Dell and other senior Dell executives fell short of that standard repeatedly over many years." In its statement on the SEC settlement the company played down Michael Dell's personal involvement, saying that his $4 million penalty was not connected to the accounting fraud charges being settled by the company, but was "limited to claims in which only negligence, and not fraudulent intent, is required to establish liability, as well as secondary liability claims for other non-fraud charges."1 Accounting Irregularities The SEC charged Dell Computer with fraud for materially misstating its operating results from FY2002 to FY2005. In addition to Dell and Rollins, the SEC also charged former Dell chief accounting officer (CAO) Robert W. Davis for his role in the company's accounting fraud. The SEC's complaint against Davis alleged that he materially misrepresented Dell's financial results by using various cookie-jar reserves to cover shortfalls in operating results and engaged in other reserve manipulations from FY2002 to FY2005, including improper recording of large payments from Intel as operating expense-offsets. This fraudulent accounting made it appear that Dell was consistently meeting Wall Street earnings targets (i.e., net operating income) through the company's management and operations. The SEC's complaint further alleged that the reserve manipulations allowed Dell to misstate materially its operating expenses as a percentage of revenue—an important financial metric that Dell highlighted to investors.2 The company engaged in the questionable use of reserve accounts to smooth net income. Davis directed Dell assistant controller Randall D. Imhoff and his subordinates, when they identified reserved amounts that were no longer needed for bona fide liabilities, to check with him about what to do with the excess reserves instead of just releasing them to the income statement. In many cases, he ordered his team to transfer the amounts to an "other accrued liabilities" account. According to the SEC, "Davis viewed the 'Corporate Contingencies' as a way to offset future liabilities. He substantially participated in the 'earmarking' of the excess accruals for various purposes." Beginning in the 1990s, Intel had a marketing campaign that paid its vendors certain marketing rebates to use their products according to a written contract. These were known as market developing funds (MDFs), which according to accounting rules, Dell could treat as reductions in operating expenses because these payments offset expenses that Dell incurred in marketing Intel's products. However, the character of these payments changed in 2001, when Intel began to provide additional rebates to Dell and a few other companies that were outside the contractual agreements. Intel made these large payments to Dell from 2001 to 2006 to refrain from using chips or processors manufactured by Intel's main rival, AMD. Rather than disclosing these material payments to investors, Dell decided that it would be better to incorporate these funds into their component costs without any recognition of their existence. The nondisclosure of these payments caused fraudulent misrepresentation, allowing Dell to report increased profitability over these years. These payments grew significantly over the years making up a rather large part of Dell's operating income. When viewed as a percentage of operating income, these payments started at about 10 percent in FY2003 and increased to about 76 percent in the first quarter of FY2007. When Dell began using AMD as a secondary supplier of chips in 2006, Intel cut the exclusivity payments off, which resulted in Dell having to report a decrease in profits. Rather than disclose the loss of the exclusivity payments as the reason for the decrease in profitability, Dell continued to mislead investors. Dell's Internal Investigation On August 16, 2007, Dell announced it had completed an internal investigation, which had revealed a variety of accounting errors and irregularities, and that it would restate results for FY2003 through FY2006, and the first quarter of 2007. The restatement cited certain accounting errors and irregularities in those financial statements as the reasons the previously issued statements should no longer be relied upon. Dell said that the investigation of accounting issues found that executives wrongfully manipulated accruals and account balances, often to meet Wall Street quarterly financial expectations in prior years. The company was forced to restate its earnings during that time period, which lowered its total earnings during that time by $50 million to $150 million. As result of the SEC's investigation, Dell took another hit to its bottom line. With the restatement, Dell's first quarter 2011 earnings looked like this: net income of $341 million and earnings of 17¢ per share. That's instead of the initially reported $441 million and 22¢ per share. PriceWaterhouseCoopers (PwC) PwC had been Dell's independent auditor since 1986 and had signed off on every one of Dell's financial statements that were on file with the SEC. From 2003 to 2007, Dell paid PwC more than $50 million to perform auditing and other services. PwC issued clean (unmodified) audit opinions for the 2003 to 2006 financial statements, saying that they fairly represented the financial position of Dell. It was alleged that PwC had consistently approved the now-restated financial statements as prepared in accordance with generally accepted accounting principles and did not conduct an audit in accordance with generally accepted auditing standards. The argument was that the opinions that the financial statements fairly represented financial position were materially false and misleading. The court ruled that the restatement does not by itself satisfy the scienter (knowledge of the falsehood) requirement to hold the auditors legally liable for deliberate misrepresentation of material facts or actions taken with severe recklessness as to the accuracy of its audits or reports. The legal standard for auditor liability under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 requires that the plaintiff must show (1) a misstatement or omission, (2) of a material fact, (3) made with scienter, (4) on which the plaintiff relied, and (5) that proximately caused the injury. The court pointed out in its opinion that "the mere publication of inaccurate accounting figures, or failure to follow GAAP, without more, does not establish scienter." To establish scienter adequately, the plaintiffs must state with particularity facts giving rise to a strong inference that the party knew that it was publishing materially false information, or that it was severely reckless in publishing such information. The court ruled that the plaintiffs did not prove fraudulent intent.3 In a suit by shareholders against the firm, PwC was accused of a variety of charges, including not being truly independent and ignoring red flags. These charges were dismissed on a basis of lack of evidence to support the accusations. ___________________ 1Facts of the case are available at http://www.economist.com/blogs/newsbook/2010/07/dells_sec_settlement 2Securities and Exchange Commission, Securities and Exchange Commission v. Robert W. Davis , Civil Action No. 1:10-cv-01464 (D.D.C.) and Securities and Exchange Commission v. Randall D. Imhoff, Civil Action No. 1:10-cv-01465 (D.D.C.), Accounting and Auditing Enforcement Release No. 3177 / August 27, 2010. Available at:www.sec.gov/litigation/litreleases/2010/lr21634 .htm 3In re Dell Inc., Securities Litigation, U.S. District Court for the Western District of Texas Austin Division, Case No. A-06-CA-726-55, October 6, 2008, Available at: http://securities.stanford.edu/filings-documents/1036/DELL_01/2008107_r01o_0600726.pdf Dell did not reveal Intel's "additional rebates" as an unusual cost reduction that might not continue in the future. A study by Dichev et al. revealed the beliefs of some 169 CFOs. CFOs believed that earnings quality is high when they are what? Predictable and accrued Sustainable and accrued C. Sustainable and backed by cash flow Predictable and backed by cash flow

C. Sustainable and backed by cash flow

6. Gregory and Alex started a small business based on a secret-recipe salad dressing that got rave reviews. Gregory runs the business end and makes all final operational decisions. Alex runs the creative side of the business. Alex's salad dressing was a jalapeno vinaigrette that went great with barbeque or burgers. He got many requests for the recipe and a local restaurant asked to use it as the house special, so Alex decided to bottle and market the dressing to the big box stores. Whole Foods and Trader Joe's carried the dressing; sales were increasing every month. As the business grew, Gregory and Alex hired Michael, a college friend and CPA, to be the CFO of the company. Michael's first suggestion was to do a five-year strategic plan with expanding product lines and taking the company public or selling it within five to seven years. Gregory and Alex weren't sure about wanting to go public and losing control, but expanding the product lines was appealing. Michael also wanted to contain costs and increase profit margins. At Alex's insistence, they called a meeting with Michael to discuss his plans. "Michael, we hired you to take care of the accounting and the financial details," Alex said. "We don't understand profit margins. On containing costs, the best ingredients must be used to ensure the quality of the dressing. We must meet all FDA requirements for food safety and containment of food borne bacteria, such as listeria or e. coli, as you develop cost systems." "Of course," Michael responded. "I will put processes in place to meet the FDA requirements." At the next quarterly meeting of the officers, Alex wanted an update on the FDA processes and the latest inspection. He was concerned whether Michael understood the importance of full compliance. "Michael," Alex said, "the FDA inspector and I had a discussion while he was here. He wanted to make sure I understood the processes and the liabilities of the company if foodborne bacteria are traced to our products. Are we doing everything by the book and reserving some liabilities for any future recalls?" Michael assured Alex and Gregory that everything was being done by the book and the accounting was following standard practices. Over the next 18 months, the FDA inspectors came and Michael reported everything was fine. After the next inspection, there was some listeria found in the product. The FDA insisted on a recall of batch 57839. Alex wanted to recall all the product to make sure that all batches were safe. "A total recall is too expensive and would mean that the product could be off the shelves for three to four weeks. It would be hard to regain our shelf advantage and we would lose market share," Michael explained. Alex seemed irritated and turned to Gregory for support, but he was silent. He then walked over to where Michael was sitting and said, "Michael, nothing is more important than our reputation. Our promise and mission is to provide great-tasting dressing made with the freshest, best, organic products. A total recall will show that we stand by our mission and promise. I know we would have some losses, but don't we have a liability reserve for recall, like a warranty reserve?" "The reserve will not cover the entire expense of a recall," Michael said. "It will be too expensive to do a total recall and will cause a huge loss for the quarter. In the next six months, we will need to renew a bank loan; a loss will hurt our renewal loan rate and terms. You know I have been working to get the company primed to go public as well." Alex offered that he didn't care about going public. He didn't start the business to be profitable. Gregory, on the other hand, indicated he thought going public was a great idea and would provide needed funds on a continuous basis. Alex told Michael that he needed to see all the FDA inspection reports. He asked, "What is the FDA requiring to be done to address the issue of listeria?" "I'm handling it, Alex," Michael said. "Don't worry about it. Just keep making new salad dressings so that we can stay competitive." "Well, Michael, just answer what the FDA is asking for." "Just to sterilize some of our equipment, but it shouldn't be too bad." "Michael, it's more than that," Alex responded. "The FDA contacted me directly and asked me to meet with them in three days to discuss our plans to meet the FDA requirements and standards. We will be fined for not addressing issues found in prior inspections. I want to see the past inspection reports so I can better understand the scope of the problem." "Listen, Alex," Michael said. "I just completed a cost-benefit analysis of fixing all the problems identified by the FDA and found the costs outweighed the benefits. We're better off paying whatever fines they impose and move on." "Michael, I don't care about cost-benefit analysis. I care about my reputation and that of the company. Bring me all the inspection reports tomorrow." The three of them met the following day. As Alex reviewed the past inspection reports, he realized that he had relied on Michael too much and his assurances that all was well with the FDA. In fact, the FDA had repeatedly noted that more sterilization of the equipment was needed and that storage of the products and ingredients needed additional care. Alex began to wonder whether Michael should stay on with the company. He also was concerned about the fact that Gregory had been largely silent during the discussions. He wondered whether Gregory was putting profits ahead of safety and the reputation of the company. Alex knows what the right thing to do is. As Alex prepares for a meeting on the inspection reports the next day, he focuses on influencing the positions of Michael and Gregory, both of whom will be involved in the meeting. Put yourself in Alex's position and answer the following questions. A. Alex is demonstrating instrumental virtue. B. Gregory is demonstrating moral intensity. C. Michael is demonstrating sensitivity. D. Michael is rationalizing after the fact.

D. Michael is rationalizing after the fact.

All of the following are ICFR-related audit deficiencies in PCAOB inspection reports except:

Inadequate qualifications of auditors

The case which deals with assigning a quality review partner to an audit is:

Medicis Pharmaceutical

Misstatements in the financial statements can result from:

All of the above

1. Canada-based Nortel Networks was one of the largest telecommunications equipment companies in the world prior to its filing for bankruptcy protection on January 14, 2009, in the United States, Canada, and Europe. The company had been subjected to several financial reporting investigations by U.S. and Canadian securities agencies in 2004. The accounting irregularities centered on premature revenue recognition and hidden cash reserves used to manipulate financial statements. The goal was to present the company in a positive light so that investors would buy (hold) Nortel stock, thereby inflating the stock price. Although Nortel was an international company, the listing of its securities on U.S. stock exchanges subjected it to all SEC regulations, along with the requirement to register its financial statements with the SEC and prepare them in accordance with U.S. GAAP. The company had gambled by investing heavily in Code Division Multiple Access (CDMA) wireless cellular technology during the 1990s in an attempt to gain access to the growing European and Asian markets. However, many wireless carriers in the aforementioned markets opted for rival Global System Mobile (GSM) wireless technology instead. Coupled with a worldwide economic slowdown in the technology sector, Nortel's losses mounted to $27.3 billion by 2001, resulting in the termination of two-thirds of its workforce. The Nortel fraud primarily involved four members of Nortel's senior management as follows: CEO Frank Dunn, CFO Douglas Beatty, controller Michael Gollogly, and assistant controller Maryanne Pahapill. At the time of the audit, Dunn was a certified management accountant, while Beatty, Gollogly, and Pahapill were chartered accountants in Canada. Accounting Irregularities On March 12, 2007, the SEC alleged the following in a complaint against Nortel: In late 2000, Beatty and Pahapill implemented changes to Nortel's revenue recognition policies that violated U.S. GAAP, specifically to pull forward revenue to meet publicly announced revenue targets. These actions improperly boosted Nortel's fourth quarter and fiscal 2000 revenue by over $1 billion, while at the same time allowing the company to meet, but not exceed, market expectations. However, because their efforts pulled in more revenue than needed to meet those targets, Dunn, Beatty, and Pahapill selectively reversed certain revenue entries during the 2000 year-end closing process. In November 2002, Dunn, Beatty, and Gollogly learned that Nortel was carrying over $300 million in excess reserves. The three did not release these excess reserves into income as required under U.S. GAAP. Instead, they concealed their existence and maintained them for later use. Further, Beatty, Dunn, and Gollogly directed the establishment of yet another $151 million in unnecessary reserves during the 2002 year-end closing process to avoid posting a profit and paying bonuses earlier than Dunn had predicted publicly. These reserve manipulations erased Nortel's pro forma profit for the fourth quarter of 2002 and caused it to report a loss instead. In the first and second quarters of 2003, Dunn, Beatty, and Gollogly directed the release of at least $490 million of excess reserves specifically to boost earnings, fabricate profits, and pay bonuses. These efforts turned Nortel's first-quarter 2003 loss into a reported profit under U.S. GAAP, which allowed Dunn to claim that he had brought Nortel to profitability a quarter ahead of schedule. In the second quarter of 2003, their efforts largely erased Nortel's quarterly loss and generated a pro forma profit. In both quarters, Nortel posted sufficient earnings to pay tens of millions of dollars in so-called return to profitability bonuses, largely to a select group of senior managers. During the second half of 2003, Dunn and Beatty repeatedly misled investors as to why Nortel was conducting a purportedly "comprehensive review" of its assets and liabilities, which resulted in Nortel's restatement of approximately $948 million in liabilities in November 2003. Dunn and Beatty falsely represented to the public that the restatement was caused solely by internal control mistakes. In reality, Nortel's first restatement was necessitated by the intentional improper handling of reserves, which occurred throughout Nortel for several years, and the first restatement effort was sharply limited to avoid uncovering Dunn, Beatty, and Gollogly's earnings management activities. The complaint charged Dunn, Beatty, Gollogly, and Pahapill with violating and/or aiding and abetting violations of the antifraud, reporting, and books and records requirements. In addition, they were charged with violating the Securities Exchange Act Section 13(b)(2)(B) that requires issuers to devise and maintain a system of internal accounting controls sufficient to provide reasonable assurances that, among other things, transactions are recorded as necessary to permit the preparation of financial statements in conformity with U.S. GAAP and to maintain accountability for the issuer's assets. Dunn and Beatty were separately charged with violations of the officer certification provisions instituted by SOX under Section 302. The commission sought a permanent injunction, civil monetary penalties, officer and director bars, and disgorgement with prejudgment interest against all four defendants. Specifics of Earnings Management Techniques From the third quarter of 2000 through the first quarter of 2001, when Nortel reported its financial results for year-end 2000, Dunn, Beatty, and Pahapill altered Nortel's revenue recognition policies to accelerate revenues as needed to meet Nortel's quarterly and annual revenue guidance, and to hide the worsening condition of Nortel's business. Techniques used to accomplish this goal include: Reinstituting bill-and-hold transactions. The company tried to find a solution for the hundreds of millions of dollars in inventory that was sitting in Nortel's warehouses and offsite storage locations. Revenues could not be recognized for this inventory because U.S. GAAP revenue recognition rules generally require goods to be delivered to the buyer before revenue can be recognized. This inventory grew, in part, because orders were slowing and, in June 2000, Nortel had banned bill-and-hold transactions from its sales and accounting practices. The company reinstituted bill-and-hold sales when it became clear that it fell short of earnings guidance. In all, Nortel accelerated into 2000 more than $1 billion in revenues through its improper use of bill-and-hold transactions. Restructuring business-asset write-downs. Beginning in February 2001, Nortel suffered serious losses when it finally lowered its earnings guidance to account for the fact that its business was suffering from the same widespread economic downturn that affected the entire telecommunications industry. As Nortel's business plummeted throughout the remainder of 2001, the company reacted by implementing a restructuring that, among other things, reduced its workforce by two-thirds and resulted in a significant write-down of assets. Creating reserves. In relation to writing down the assets, Nortel established reserves that were used to manage earnings. Assisted by defendants Beatty and Gollogly, Dunn manipulated the company's reserves to manage Nortel's publicly reported earnings, create the false appearance that his leadership and business acumen was responsible for Nortel's profitability, and pay bonuses to these three defendants and other Nortel executives. Releasing reserves into income. From at least July 2002 through June 2003, Dunn, Beatty, and Gollogly released excess reserves to meet Dunn's unrealistic and overly aggressive earnings targets. When Nortel internally (and unexpectedly) determined that it would return to profitability in the fourth quarter of 2002, the reserves were used to reduce earnings for the quarter, avoid reporting a profit earlier than Dunn had publicly predicted, and create a stockpile of reserves that could be (and were) released in the future as necessary to meet Dunn's prediction of profitability by the second quarter of 2003. When 2003 turned out to be rockier than expected, Dunn, Beatty, and Gollogly orchestrated the release of excess reserves to cause Nortel to report a profit in the first quarter of 2003, a quarter earlier than the public expected, and to pay defendants and others substantial bonuses that were awarded for achieving profitability on a pro forma basis. Because their actions drew the attention of Nortel's outside auditors, they made only a portion of the planned reserve releases. This allowed Nortel to report nearly break-even results (though not actual profit) and to show internally that the company had again reached profitability on a pro forma basis necessary to pay bonuses. Role of Auditors and Audit Committee In late October 2000, as a first step toward reintroducing bill-and-hold transactions into Nortel's sales and accounting practices, Nortel's then controller and assistant controller asked Deloitte to explain, among other things, (1) "[u]nder what circumstances can revenue be recognized on product (merchandise) that has not been shipped to the end customer?" and (2) whether merchandise accounting can be used to recognize revenues "when installation is imminent" or "when installation is considered to be a minor portion of the contract"? On November 2, 2000, Deloitte presented Nortel with a set of charts that, among other things, explained the US GAAP criteria for revenues to be recognized prior to delivery (including additional factors to consider for a bill-and-hold transaction) and also provided an example of a customer request for a bill-and-hold sale "that would support the assertion that Nortel should recognize revenue" prior to delivery. Nortel's earnings management scheme began to unravel at the end of the second quarter of 2003. On the morning of July 24, 2003, the same day on which Nortel issued its second Quarter 2003 earnings release, Deloitte informed Nortel's audit committee that it had found a "reportable condition" with respect to weaknesses in Nortel's accounting for the establishment and disposition of reserves. Deloitte went on to explain that, in response to its concerns, Nortel's management had undertaken a project to gather support and determine proper resolution of certain provision balances. Management, in fact, had undertaken this project because the auditor required adequate audit evidence for the upcoming year-end 2003 audit. Nortel concealed its auditor's concerns from the public, instead disclosing the comprehensive review. Shortly after Nortel's announced restatement, the audit committee commenced an independent investigation and hired outside counsel to help it "gain a full understanding of the events that caused significant excess liabilities to be maintained on the balance sheet that needed to be restated," as well as to recommend any necessary remedial measures. The investigation uncovered evidence that Dunn, Beatty, and Gollogly and certain other financial managers were responsible for Nortel's improper use of reserves in the second half of 2002 and first half of 2003. In March 2004, Nortel suspended Beatty and Gollogly and announced that it would "likely" need to revise and restate previously filed financial results further. Dunn, Beatty, and Gollogly were terminated for cause in April 2004. On January 11, 2005, Nortel issued a second restatement that restated approximately $3.4 billion in misstated revenues and at least another $746 million in liabilities. All of the financial statement effects of the defendants' two accounting fraud schemes were corrected as of this date, but there remained lingering effects from the defendants' internal control and other non-fraud violations. Nortel also disclosed the findings to date of the audit committee's independent review, which concluded, among other things, that Dunn, Beatty, and Gollogly were responsible for Nortel's improper use of reserves in the second half of 2002 and first half of 2003. The second restatement, however, did not reveal that Nortel's top executives had also engaged in revenue recognition fraud in 2000. In May 2006, in its Form 10-K for the period ending December 31, 2005, Nortel admitted for the first time that its restated revenues in part had resulted from management fraud, stating that "in an effort to meet internal and external targets, the senior corporate finance management team . . . changed the accounting policies of the company several times during 2000," and that those changes were "driven by the need to close revenue and earnings gaps." Throughout their scheme, the defendants lied to Nortel's independent auditor by making materially false and misleading statements and omissions in connection with the quarterly reviews and annual audits of the financial statements that were materially misstated. Among other things, each of the defendants submitted management representation letters to the auditors that concealed the fraud and made false statements, which included that the affected quarterly and annual financial statements were presented in conformity with U.S. GAAP and that they had no knowledge of any fraud that could have a material effect on the financial statements. Dunn, Beatty, and Gollogly also submitted a false management representation letter in connection with Nortel's first restatement, and Pahapill likewise made false management representations in connection with Nortel's second restatement. The defendants' scheme resulted in Nortel issuing materially false and misleading quarterly and annual financial statements and related disclosures for at least the financial reporting periods ending December 31, 2000, through December 31, 2003, and in all subsequent filings made with the SEC that incorporated those financial statements and related disclosures by reference. On October 15, 2007, Nortel, without admitting or denying the SEC's charges, agreed to settle the commission's action by consenting to be enjoined permanently from violating the antifraud, reporting, books and records, and internal control provisions of the federal securities laws and by paying a $35 million civil penalty, which the commission placed in a Fair Fund for distribution to affected shareholders. Nortel also agreed to report periodically to the commission's staff on its progress in implementing remedial measures and resolving an outstanding material weakness over its revenue recognition procedures. On January 14, 2009, Nortel filed for protection from creditors in the United States, Canada, and the United Kingdom in order to restructure its debt and financial obligations. In June, the company announced that it no longer planned to continue operations and that it would sell off all of its business units. Nortel's CDMA wireless business and long-term evolutionary access technology (LTE) were sold to Ericsson, and Avaya purchased its Enterprise business unit. The final indignity for Nortel came on June 25, 2009, when Nortel's stock price dropped to 18.5¢ a share, down from a high of $124.50 in 2000. Nortel's battered and bruised stock was finally delisted from the S&P/TSX composite index, a stock index for the Canadian equity market, ending a colossal collapse on an exchange on which the Canadian telecommunications giant's stock valuation once accounted for a third of its value. Postscript During testimony about the fraud at Nortel on June 13, 2012, the lead Deloitte auditor on the Nortel engagement, Don Hathway, suggested that CEO Frank Dunn "did not understand" the role of the external auditors from Deloitte & Touche as they probed issues related to the company's accounting in 2003. Hathway told the Toronto fraud trial of Dunn and two other former Nortel executives that , after almost a year of working daily with Nortel staff at the company's head office, he concluded that neither management nor the board's audit committee understood his role. Hathway was assigned to head the Nortel audit team in January, 2003, and said he and Deloitte audit partner John Cawthorne quickly found themselves being pressured by Dunn to help Nortel find strategies to deal with its accounting issues. "He had lectured John Cawthorne and I on more than one occasion about the need to be creative and come up with solutions ... It indicated to me that he did not understand our role as independent auditors." Hathway said the relationship with the Nortel board's audit committee, led by former bank executive John Cleghorn, also grew strained and needed to be "reset" by late 2003. "The audit committee seemed more interested in getting things done by a certain schedule than they did getting them done right," Hathway testified. "I was surprised by that, because my view of their function was to oversee the integrity of the financial reporting process." He said he was criticized by Cleghorn for taking too long to review issues related to the press release announcing first-quarter financial results in 2003, and was "severely criticized" for expressing reservations about offering an assurance on the company's third-quarter financial statements that year. Hathway testified he felt Nortel had a "macho" culture, and that many of its senior executives had never worked anywhere else, so "hadn't seen how other companies do things. I think that type of culture was problematic," he said. By November, 2003, Hathway was removed as lead audit partner on the engagement after spending his brief tenure raising red flags about Nortel's use of accounting reserves in 2003. He instead became a senior technical adviser to the audit team. He said his supervisor told him he was being replaced because he "didn't communicate with the audit committee." Hathway said he first discovered in the summer of 2003 - just six months after being assigned to lead the Nortel audit - that senior executives at the company were unhappy with his work. At the time, Hathway was pressing the company to launch a comprehensive review of the accounting reserves it was carrying on its balance sheet - a review that later led to a controversial restatement of the company's books in the fall of 2003. Hathway testified that he was shown the results of Deloitte client-survey interviews conducted in July, 2003, with Mr. Beatty and Mr. Gollogly. In the interview summary, Gollogly reportedly complained that Deloitte's two new lead audit partners - Hathway and Cawthorne - were "night and day" compared with Deloitte partners previously assigned to Nortel, and were "turning the audit on its head. Gollogly described Hathway and Cawthorne as 'inflexible,' the interview summary said, and not in 'solution mode.' " The three former top executives of Nortel Networks Corp. were found not guilty of fraud on January 14, 2013. In the court ruling, Justice Frank Marrocco of the Ontario Superior Court found that the accounting manipulations that caused the company to restate its earnings for 2002 and 2003 did not cross the line into criminal behavior. During the trial, lawyers for the accused said that the men believed that the accounting decisions they made were appropriate at the time, and that the accounting treatment was approved by Nortel's auditors from Deloitte & Touche. Judge Marrocco accepted these arguments, noting many times in his ruling that bookkeeping decisions were reviewed and approved by auditors and were disclosed adequately to investors in press releases or notes added to the financial statements. Nonetheless, the judge also said that he believed that the accused were attempting to "manage" Nortel's financial results in both the fourth quarter of 2002 and in 2003, but he added he was not satisfied that the changes resulted in material misrepresentations. He said that except for $80 million of reserves released in the first quarter of 2003, the rest of the use of reserves was within "the normal course of business." Judge Marrocco said the $80 million release, while clearly "unsupportable" and later reversed during a restatement of Nortel's books, was disclosed properly in Nortel's financial statements at the time and was not a material amount. He concluded that Beatty and Dunn "were prepared to go to considerable lengths" to use reserves to improve the bottom line in the second quarter of 2003, but he said the decision was reversed before the financial statements were completed because Gollogly challenged it. In a surprising twist, Judge Marrocco also suggested the two devastating restatements of Nortel's books in 2003 and 2005 were probably unnecessary in hindsight, although he said he understood why they were done in the context of the time. He said the original statements were arguably correct within a threshold of what was material for a company of that size. Nortel began issuing financial restatements in 2004. The definition of a financial restatement is _________________. indications that the current year's financial statements contained material misstatements B. indications that the previous year's financial statements contained material misstatements indications that the current year's financial statements contained probable misstatements indications that the previous year's misstatements contained probable misstatements

B. indications that the previous year's financial statements contained material misstatements

8. [The following information applies to the questions displayed below.] Ed Giles and Susan Regas have never been happier than during the past four months since they have been seeing each other. Giles is a 35-year-old CPA and a partner in the medium-sized accounting firm of Saduga & Mihca. Regas is a 25-year-old senior accountant in the same firm. Although it is acceptable for peers to date, the firm does not permit two members of different ranks within the firm to do so. A partner should not date a senior in the firm any more than a senior should date a junior staff accountant. If such dating eventually leads to marriage, then one of the two must resign because of the conflicts of interest. Both Giles and Regas know the firm's policy on dating, and they have tried to be discreet about their relationship because they don't want to raise any suspicions. While most of the staff seem to know about Giles and Regas, it is not common knowledge among the partners that the two of them are dating. Perhaps that is why Regas was assigned to work on the audit of CAA Industries for a second year, even though Giles is the supervising partner on the engagement. As the audit progresses, it becomes clear to the junior staff members that Giles and Regas are spending personal time together during the workday. On one occasion, they were observed leaving for lunch together. Regas did not return to the client's office until three hours later. On another occasion, Regas seemed distracted from her work, and later that day, she received a dozen roses from Giles. A friend of Regas's who knew about the relationship, Ruth Revilo, became concerned when she happened to see the flowers and a card that accompanied them. The card was signed, "Love, Poochie." Regas had once told Revilo that it was the nickname that Regas gave to Giles. Revilo pulls Regas aside at the end of the day and says, "We have to talk." "What is it?" Regas asks. "I know the flowers are from Giles," Revilo says. "Are you crazy?" "It's none of your business," Regas responds. Revilo goes on to explain that others on the audit engagement team are aware of the relationship between the two. Revilo cautions Regas about jeopardizing her future with the firm by getting involved in a serious dating relationship with someone of a higher rank. Regas does not respond to this comment. Instead, she admits to being distracted lately because of an argument that she had with Giles. It all started when Regas had suggested to Giles that it might be best if they did not go out during the workweek because she was having a hard time getting to work on time. Giles was upset at the suggestion and called her ungrateful. He said, "I've put everything on the line for you. There's no turning back for me." She points out to Revilo that the flowers are Giles's way of saying he is sorry for some of the comments he had made about her. Regas promises to talk to Giles and thanks Revilo for her concern. That same day, Regas telephones Giles and tells him she wants to put aside her personal relationship with him until the CAA audit is complete in two weeks. She suggests that, at the end of the two-week period, they get together and thoroughly examine the possible implications of their continued relationship. Giles reluctantly agrees, but he conditions his acceptance on having a "farewell" dinner at their favorite restaurant. Regas agrees to the dinner. Giles and Regas have dinner that Saturday night. As luck would have it, the controller of CAA Industries, Mark Sax, is at the restaurant with his wife. Sax is startled when he sees Giles and Regas together. He wonders about the possible seriousness of their relationship, while reflecting on the recent progress billings of the accounting firm. Sax believes that the number of hours billed is out of line with work of a similar nature and the fee estimate. He had planned to discuss the matter with Herb Morris, the managing partner of the firm. He decides to call Morris on Monday morning. "Herb, you son of a gun, it's Mark Sax." "Mark. How goes the audit?" "That's why I'm calling," Sax responds. "Can we meet to discuss a few items?" "Sure," Morris replies. "Just name the time and place." "How about first thing tomorrow morning?" asks Sax. "I'll be in your office at 8:00 a.m.," says Morris. "Better make it at 7:00 a.m., Herb, before your auditors arrive." Sax and Morris meet to discuss Sax's concerns about seeing Giles and Regas at the restaurant and the possibility that their relationship is negatively affecting audit efficiency. Morris asks whether any other incidents have occurred to make him suspicious about the billings. Sax says that he is only aware of this one instance, although he sensed some apprehension on the part of Regas last week when they discussed why it was taking so long to get the audit recommendations for adjusting entries. Morris listens attentively until Sax finishes and then asks him to be patient while he sets up a meeting to discuss the situation with Giles. Morris promises to get back to Sax by the end of the week. Ethical and Professional Issues Giles and Regas have put themselves in a position where their work product may suffer as a result of their relationship. It appears that this already has occurred since Mark Sax, the controller of CAA Industries, has expressed his concerns to Herb Morris, the managing partner of the local office of the firm that the delay in audit completion and high level of billings may be due to distractions resulting from the relationship. The reliability of Giles and Regas seems to be questioned by Sax. An important ethical concern is the conflict of interest that Giles may have if, for example, he determines that Regas is not adequately carrying out her responsibilities. Giles could have a difficult time dealing with this situation in the same way that he would handle a situation that involved a staff member with whom his relationship is solely professional. Moreover, the audit manager is in a sensitive position because he or she may know of the relationship and hesitate to treat Regas the same way other staff members are treated because Giles is the manager's superior. A conflict of interest tends to cloud one's judgment as to what is the right thing to do. It makes it more difficult for a supervisor to be impartial. Even the appearance of a conflict can harm the image of the professional. It has been said that the best way to handle a conflict of interest is not to become involved in one in the first place. This is why the codes of conduct of professional accounting associations preclude members from engaging in activities that can create such a conflict. The Principle of Objectivity in the AICPA Code requires that: A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. The ethical standard of Integrity in IMA Code states that: Management accountants have a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict. The firm's policy on dating seems to be appropriate. It is designed to avoid compromising client relations and audit efficiency. The profession sets high standards of conduct to guide its members in relationships with clients, suppliers, customers and others who can influence the decision-making process. These same high standards should be aspired to by all CPAs in dealing with members of their organization and other professionals. Giles and Regas are not acting in a professional manner. They seem to know this because in the last sentence of the first paragraph it states that they "have tried to be discreet about their relationship because they don't want to create any suspicions." If they truly felt comfortable with their relationship, then they would have nothing to hide. However, their actions violate firm policy and this is undoubtedly why they are being discreet. It appears from the facts of the case that Giles is more responsible than Regas for the tension on the CAA Industries audit. To begin with, he never should have allowed Regas to serve as the senior on the audit since he is the supervising partner on the engagement. Perhaps he allowed her to work on the audit because to do otherwise might have aroused suspicions about a possible relationship between the two of them. Giles also seems to have created stress for Regas by his inappropriate comment: "There's no turning back for me." This type of comment can only add to the pressure Regas feels, given that her work is scrutinized by Giles. The result may be to negatively affect audit efficiency. Although Regas' involvement in the relationship should not be dismissed, she does seem to recognize the dangers and ultimately makes a decision to put aside their relationship in the interests of completing the audit. Rather than simply honoring her request not to date for two weeks, Giles conditions his agreement on a "farewell" dinner. This is not a very caring and considerate thing to do and it demonstrates selfishness on the part of Giles. In fact, the dinner is the event that brings matters out in the open because Mark Sax now suspects that their relationship may be affecting completion of the audit. The direct involvement of the client puts the firm in a very difficult position, one that Herb Morris will have to deal with at the meeting with Giles. Ethical Analysis The decision to be made by Herb Morris can be analyzed using ethical reasoning. The stakeholders affected by Morris' decision include: Giles and Regas; the accounting firm; other staff members of the firm and its partners; CAA Industries and other clients that might be affected by the decision; and Mark Sax. Utilitarian Theory: From a utilitarian perspective, Morris should weigh the consequences of alternative courses of action. The alternatives and an evaluation of the potential benefits and harms of each course of action follow. Permit Giles and Regas to complete the audit, but ask one of them to resign thereafter. It is not practical to remove Giles or Regas from an audit that should be completed in about two weeks. The decision already has been made to put aside their relationship until the CAA audit is completed. This seems to be the best option from both the accounting firm's position and that of the client. All stakeholders seem to benefit from allowing Giles and Regas to fulfill their audit responsibilities under act utilitarianism. The second part of this option is more troubling in that it is difficult to determine who should be asked to resign. It is an issue of fairness and due care. On the surface it may appear that Regas should be asked to resign because of Giles' position in the firm. However, this may not be in the best interests of the firm and other clients who may be very satisfied with the work of Regas. These stakeholders could be harmed by a decision that leads to the resignation of a valued member of the firm, and one with excellent future prospects. While the facts of the case are silent on this issue, it is an important one for Morris to consider. Clearly, he should meet with the other partners before making a decision. Any decision to remove Giles from the partnership is likely to be an expensive one for the firm since it will have to buyout Giles' ownership interest. Permit Giles and Regas to complete the audit and allow both of them to continue with the firm. If both Giles and Regas are allowed to continue with the firm, then other staff members may start to wonder whether there are any consequences of violating firm policy. This is likely to be a particularly sensitive issue since some staff members on the CAA audit already suspect that the relationship is affecting the performance of Regas. Additionally, Mark Sax is aware of the situation and has expressed CAA's concern about the effect the relationship may be having on audit billings. On the other hand, Morris may believe that a warning is sufficient to protect the firm's interests and those of the client, especially since the firm's policy only requires one of the two to resign if marriage is eventually planned. It may be that the best option is to give them another chance but take measures to prevent them from serving together on any audits in the future. Rights Theory: From a rights approach, the most important issue is that of universality. That is, whatever decision is made by Morris should be one that he would want others in his position to take in similar situations for similar reasons. In other words, Morris may be establishing a firm policy on this issue and setting a tone for other staff members based on how he handles the dating relationship between Giles and Regas. Whichever option he chooses, it is important for Morris and the firm to realize that consistent action should follow when others are involved in similar situations. Another important element of the decision is that Regas may believe that her rights are violated if she is "forced" to resign or is terminated from employment with the accounting firm. This could be a particularly sensitive issue if her performance meets or exceeds all of the firm's standards for its senior staff members. If Regas believes she has been wrongly fired, she may seek legal recourse against the firm for its action. Justice Theory: There are many issues to consider from a justice perspective in evaluating the two alternative courses of action. First, if Morris does, in fact, establish a firm policy with his decision, as suggested above, then the new policy should treat all staff members fairly. For example, let's assume that Regas is fired because Giles is a partner with an ownership interest in the firm. Then, if another situation develops where a manager dates a senior, the employees involved and other staff members may expect that the senior will be fired regardless of that person's gender. Otherwise, some staff members may come to believe that the firm discriminates in enforcing its policy. Specifically, if the manager is a woman and the senior is a man, the justice theory requires that the man should be fired because he is of lower rank in the firm. The firm must also be sensitive to fact that this situation could turn into a sexual harassment matter. On the other hand, the fairer approach may be to terminate the employee who has contributed less to the firm's success in terms of performance and client service. Future potential also could be considered. For example, let's assume that the other partners dislike Giles because he is known to become involved in situations that compromise the firm's position. If Regas is a highly productive member of the firm who is well liked by the partners, other staff members and clients, then it could be that Regas should remain with the firm and Giles asked to resign. Another important issue related to justice is the reaction of other staff members to Morris' decision. If the other staff members believe that Regas is being signaled out as the scapegoat in this situation, then the morale of the staff may be negatively affected. The way that the decision is perceived by other staff members may directly affect their view of the fairness of the decision. This is particularly relevant in the case because Regas appears to be the one who has exercised proper judgment and Giles seems to be putting undue pressure on Regas and, perhaps, taking advantage of his position and influence in the firm. Other staff members may come to resent a decision that demonstrates favoritism toward Giles, regardless of the circumstances. When Morris meets with Giles he should be honest and candid regarding the position of the other partners. Morris should fully disclose the client's concerns and those of the firm, especially as it pertains to the possible higher level of billings and violation of firm policy. The way in which Giles reacts to the statements of Morris and his expression of concern for the firm's interests and those of the client may be an important consideration in Morris' decision. One factor that was previously mentioned and that should have a significant bearing on the firm's decision is the contribution of Giles and Regas to the welfare of the firm and its clients. Ethics in accounting is based on which of the following? A. Respect B. Fairness C. Responsibility D. Integrity

D. Integrity

All of the following are in a position to commit fraud except: a. Employees who have access to assets b. Top management who can override internal controls c. External auditors who audit the financial statements d. Internal auditors who test internal controls

c

The Restatement (Second) of Torts Approach:

A. Expands an accountant's legal liability to third parties identified by the client as intended recipients of work

9. A common ethical problem where there is an unrealistic expectation to meet expected results and the ends justifies the means can be best described as: A. Pressure to maintain the numbers B. Fear of reprisal C. Loyalty to the boss D. Weak board of directors

A. Pressure to maintain the numbers

In tenants Corp V Max Rothenberg, the auditors were held liable for:

A. Write Up work

Which of the following is NOT a valid defense to legal liability under the Securities Act of 1933?

B. Non-negligence defense

18. Commercialism versus Professionalism raises issues about: A. The future of the accounting profession B. Pressures to compromise ethical values that exist in alternative practice structures C. Low-ball bidding for audit services D. Opinion shopping

B. Pressures to compromise ethical values that exist in alternative practice structures

7. The stakeholder view emphasizes the obligations of management to: A. The shareholders B. The shareholders and creditors C. All parties impacted by corporate decisions in a significant way D. The board of directors

C. All parties impacted by corporate decisions in a significant way

11. Refer to question 9. In remarks in the speech, The Numbers Game, ________ described the technique of cookie-jar reserves used by Dell. Alan Greenspan, FED Chairman Mary Shapiro at the SEC C. Arthur Levitt at the SEC Janet Yellen, FED Chairwoman

C. Arthur Levitt at the SEC

38. In performing risk assessment the auditor should identify the following types of misstatements: A. Known and unknown misstatements B. Likely and unknown misstatements C. Known and likely misstatements D. All material misstatements

C. Known and likely misstatements

43. If a company is seeking out views of different accounting firms until they find one with a desired accounting treatment, it would be called _____. A. Low-balling B. Under bidding C. Opinion shopping D. Option pricing

C. Opinion shopping

14. A CPA can accept a contingent fee in providing tax services for an attest client if: A. The CPA discloses this fact to the tax client B. The CPA receives the permission of the client to accept such a form of payment C. The CPA's tax services will be reviewed by a taxing authority D. All of the above

C. The CPA's tax services will be reviewed by a taxing authority

10. The auditors in the Tier One Bank case were investigated by the SEC because it: Failed to obtain sufficient competent evidential matter to support audit conclusions Failed to exercise the appropriate level of care in its audit Failed to exercise the proper degree of professional skepticism D. All of the above

D. All of the above Failed to obtain sufficient competent evidential matter to support audit conclusions Failed to exercise the appropriate level of care in its audit Failed to exercise the proper degree of professional skepticism

6. Refer to question 4. Marketing tax shelters with names like FLIP and BLIPS suggests a lack of what? Transformational leadership Moral persons Whistleblowers D. Ethical leadership competence

D. Ethical leadership competence

13. The confidentiality standard in the AICPA code provides a blanket exception to the rule in each of the following situations except: A. In response to a validly issued court summons B. To provide information to the PCAOB in its inspection process C. To defend oneself in an ethics investigation D. In response to a successor auditor's request

D. In response to a successor auditor's request

11. Under section 302 of the SOX the financial statement certifying officials must include in their certification that: A. A list of all deficiencies in the internal controls and information on any fraud that involves employees who are involved with internal activities has been created The auditors are responsible for the internal controls and have evaluated and reported on them All changes in internal controls or related factors that could have a negative effect on the internal controls have been made The audit report was unmodified

A. A list of all deficiencies in the internal controls and information on any fraud that involves employees who are involved with internal activities has been created

1. Ethical relativism can best be described as a: A. Point of view that morality is relative to the norms of one's culture. B. Concept that holds that integrity should be maintained in the face of pressure by others. C. An ethical reasoning method that holds one should always act out of self-interest. D. An ethical reasoning method that holds one should always consider the effect of one's actions on others.

A. Point of view that morality is relative to the norms of one's culture.

32. The misappropriation of assets refers to: A. The deliberate use of company assets for personal reasons B. The deliberate overstatement of financial statements C. The deliberate omission of disclosures from the statements D. All of these

A. The deliberate use of company assets for personal reasons

37. In an audit, the auditor has a requirement to address risk assessment with respect to: A. The design and performance of audit procedures to respond to assessed risks B. Whether the standards close the expectation gap C. The role and responsibilities of the audit committee in preventing fraud D. All of these

A. The design and performance of audit procedures to respond to assessed risks

3. Which of the following is NOT one of the defenses an auditor can use against third-party lawsuits for fraud? A. The third party was not in contractual privity The auditor did not have a duty to the third party The third party was negligent The third party did not suffer a loss

A. The third party was not in contractual privity

1. The cognitive development approach refers to: A. The thought process followed in one's moral development B. The method of moral reasoning used in decision making C. The exercise of professional judgment in decision making D. The approach to giving voice to one's values

A. The thought process followed in one's moral development

6. The conceptual framework in the AICPA Code establishes a: A. Threats and safeguards approach to assess whether ethics rules have been violated B. Rules to assess independence violations apart from those affecting other services C. New rule on when to follow the Dodd-Frank whistle-blower's act D. Legal liability of auditors

A. Threats and safeguards approach to assess whether ethics rules have been violated

5. [The following information applies to the questions displayed below.] Ed Giles and Susan Regas have never been happier than during the past four months since they have been seeing each other. Giles is a 35-year-old CPA and a partner in the medium-sized accounting firm of Saduga & Mihca. Regas is a 25-year-old senior accountant in the same firm. Although it is acceptable for peers to date, the firm does not permit two members of different ranks within the firm to do so. A partner should not date a senior in the firm any more than a senior should date a junior staff accountant. If such dating eventually leads to marriage, then one of the two must resign because of the conflicts of interest. Both Giles and Regas know the firm's policy on dating, and they have tried to be discreet about their relationship because they don't want to raise any suspicions. While most of the staff seem to know about Giles and Regas, it is not common knowledge among the partners that the two of them are dating. Perhaps that is why Regas was assigned to work on the audit of CAA Industries for a second year, even though Giles is the supervising partner on the engagement. As the audit progresses, it becomes clear to the junior staff members that Giles and Regas are spending personal time together during the workday. On one occasion, they were observed leaving for lunch together. Regas did not return to the client's office until three hours later. On another occasion, Regas seemed distracted from her work, and later that day, she received a dozen roses from Giles. A friend of Regas's who knew about the relationship, Ruth Revilo, became concerned when she happened to see the flowers and a card that accompanied them. The card was signed, "Love, Poochie." Regas had once told Revilo that it was the nickname that Regas gave to Giles. Revilo pulls Regas aside at the end of the day and says, "We have to talk." "What is it?" Regas asks. "I know the flowers are from Giles," Revilo says. "Are you crazy?" "It's none of your business," Regas responds. Revilo goes on to explain that others on the audit engagement team are aware of the relationship between the two. Revilo cautions Regas about jeopardizing her future with the firm by getting involved in a serious dating relationship with someone of a higher rank. Regas does not respond to this comment. Instead, she admits to being distracted lately because of an argument that she had with Giles. It all started when Regas had suggested to Giles that it might be best if they did not go out during the workweek because she was having a hard time getting to work on time. Giles was upset at the suggestion and called her ungrateful. He said, "I've put everything on the line for you. There's no turning back for me." She points out to Revilo that the flowers are Giles's way of saying he is sorry for some of the comments he had made about her. Regas promises to talk to Giles and thanks Revilo for her concern. That same day, Regas telephones Giles and tells him she wants to put aside her personal relationship with him until the CAA audit is complete in two weeks. She suggests that, at the end of the two-week period, they get together and thoroughly examine the possible implications of their continued relationship. Giles reluctantly agrees, but he conditions his acceptance on having a "farewell" dinner at their favorite restaurant. Regas agrees to the dinner. Giles and Regas have dinner that Saturday night. As luck would have it, the controller of CAA Industries, Mark Sax, is at the restaurant with his wife. Sax is startled when he sees Giles and Regas together. He wonders about the possible seriousness of their relationship, while reflecting on the recent progress billings of the accounting firm. Sax believes that the number of hours billed is out of line with work of a similar nature and the fee estimate. He had planned to discuss the matter with Herb Morris, the managing partner of the firm. He decides to call Morris on Monday morning. "Herb, you son of a gun, it's Mark Sax." "Mark. How goes the audit?" "That's why I'm calling," Sax responds. "Can we meet to discuss a few items?" "Sure," Morris replies. "Just name the time and place." "How about first thing tomorrow morning?" asks Sax. "I'll be in your office at 8:00 a.m.," says Morris. "Better make it at 7:00 a.m., Herb, before your auditors arrive." Sax and Morris meet to discuss Sax's concerns about seeing Giles and Regas at the restaurant and the possibility that their relationship is negatively affecting audit efficiency. Morris asks whether any other incidents have occurred to make him suspicious about the billings. Sax says that he is only aware of this one instance, although he sensed some apprehension on the part of Regas last week when they discussed why it was taking so long to get the audit recommendations for adjusting entries. Morris listens attentively until Sax finishes and then asks him to be patient while he sets up a meeting to discuss the situation with Giles. Morris promises to get back to Sax by the end of the week. Ethical and Professional Issues Giles and Regas have put themselves in a position where their work product may suffer as a result of their relationship. It appears that this already has occurred since Mark Sax, the controller of CAA Industries, has expressed his concerns to Herb Morris, the managing partner of the local office of the firm that the delay in audit completion and high level of billings may be due to distractions resulting from the relationship. The reliability of Giles and Regas seems to be questioned by Sax. An important ethical concern is the conflict of interest that Giles may have if, for example, he determines that Regas is not adequately carrying out her responsibilities. Giles could have a difficult time dealing with this situation in the same way that he would handle a situation that involved a staff member with whom his relationship is solely professional. Moreover, the audit manager is in a sensitive position because he or she may know of the relationship and hesitate to treat Regas the same way other staff members are treated because Giles is the manager's superior. A conflict of interest tends to cloud one's judgment as to what is the right thing to do. It makes it more difficult for a supervisor to be impartial. Even the appearance of a conflict can harm the image of the professional. It has been said that the best way to handle a conflict of interest is not to become involved in one in the first place. This is why the codes of conduct of professional accounting associations preclude members from engaging in activities that can create such a conflict. The Principle of Objectivity in the AICPA Code requires that: A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. The ethical standard of Integrity in IMA Code states that: Management accountants have a responsibility to avoid actual or apparent conflicts of interest and advise all appropriate parties of any potential conflict. The firm's policy on dating seems to be appropriate. It is designed to avoid compromising client relations and audit efficiency. The profession sets high standards of conduct to guide its members in relationships with clients, suppliers, customers and others who can influence the decision-making process. These same high standards should be aspired to by all CPAs in dealing with members of their organization and other professionals. Giles and Regas are not acting in a professional manner. They seem to know this because in the last sentence of the first paragraph it states that they "have tried to be discreet about their relationship because they don't want to create any suspicions." If they truly felt comfortable with their relationship, then they would have nothing to hide. However, their actions violate firm policy and this is undoubtedly why they are being discreet. It appears from the facts of the case that Giles is more responsible than Regas for the tension on the CAA Industries audit. To begin with, he never should have allowed Regas to serve as the senior on the audit since he is the supervising partner on the engagement. Perhaps he allowed her to work on the audit because to do otherwise might have aroused suspicions about a possible relationship between the two of them. Giles also seems to have created stress for Regas by his inappropriate comment: "There's no turning back for me." This type of comment can only add to the pressure Regas feels, given that her work is scrutinized by Giles. The result may be to negatively affect audit efficiency. Although Regas' involvement in the relationship should not be dismissed, she does seem to recognize the dangers and ultimately makes a decision to put aside their relationship in the interests of completing the audit. Rather than simply honoring her request not to date for two weeks, Giles conditions his agreement on a "farewell" dinner. This is not a very caring and considerate thing to do and it demonstrates selfishness on the part of Giles. In fact, the dinner is the event that brings matters out in the open because Mark Sax now suspects that their relationship may be affecting completion of the audit. The direct involvement of the client puts the firm in a very difficult position, one that Herb Morris will have to deal with at the meeting with Giles. Ethical Analysis The decision to be made by Herb Morris can be analyzed using ethical reasoning. The stakeholders affected by Morris' decision include: Giles and Regas; the accounting firm; other staff members of the firm and its partners; CAA Industries and other clients that might be affected by the decision; and Mark Sax. Utilitarian Theory: From a utilitarian perspective, Morris should weigh the consequences of alternative courses of action. The alternatives and an evaluation of the potential benefits and harms of each course of action follow. Permit Giles and Regas to complete the audit, but ask one of them to resign thereafter. It is not practical to remove Giles or Regas from an audit that should be completed in about two weeks. The decision already has been made to put aside their relationship until the CAA audit is completed. This seems to be the best option from both the accounting firm's position and that of the client. All stakeholders seem to benefit from allowing Giles and Regas to fulfill their audit responsibilities under act utilitarianism. The second part of this option is more troubling in that it is difficult to determine who should be asked to resign. It is an issue of fairness and due care. On the surface it may appear that Regas should be asked to resign because of Giles' position in the firm. However, this may not be in the best interests of the firm and other clients who may be very satisfied with the work of Regas. These stakeholders could be harmed by a decision that leads to the resignation of a valued member of the firm, and one with excellent future prospects. While the facts of the case are silent on this issue, it is an important one for Morris to consider. Clearly, he should meet with the other partners before making a decision. Any decision to remove Giles from the partnership is likely to be an expensive one for the firm since it will have to buyout Giles' ownership interest. Permit Giles and Regas to complete the audit and allow both of them to continue with the firm. If both Giles and Regas are allowed to continue with the firm, then other staff members may start to wonder whether there are any consequences of violating firm policy. This is likely to be a particularly sensitive issue since some staff members on the CAA audit already suspect that the relationship is affecting the performance of Regas. Additionally, Mark Sax is aware of the situation and has expressed CAA's concern about the effect the relationship may be having on audit billings. On the other hand, Morris may believe that a warning is sufficient to protect the firm's interests and those of the client, especially since the firm's policy only requires one of the two to resign if marriage is eventually planned. It may be that the best option is to give them another chance but take measures to prevent them from serving together on any audits in the future. Rights Theory: From a rights approach, the most important issue is that of universality. That is, whatever decision is made by Morris should be one that he would want others in his position to take in similar situations for similar reasons. In other words, Morris may be establishing a firm policy on this issue and setting a tone for other staff members based on how he handles the dating relationship between Giles and Regas. Whichever option he chooses, it is important for Morris and the firm to realize that consistent action should follow when others are involved in similar situations. Another important element of the decision is that Regas may believe that her rights are violated if she is "forced" to resign or is terminated from employment with the accounting firm. This could be a particularly sensitive issue if her performance meets or exceeds all of the firm's standards for its senior staff members. If Regas believes she has been wrongly fired, she may seek legal recourse against the firm for its action. Justice Theory: There are many issues to consider from a justice perspective in evaluating the two alternative courses of action. First, if Morris does, in fact, establish a firm policy with his decision, as suggested above, then the new policy should treat all staff members fairly. For example, let's assume that Regas is fired because Giles is a partner with an ownership interest in the firm. Then, if another situation develops where a manager dates a senior, the employees involved and other staff members may expect that the senior will be fired regardless of that person's gender. Otherwise, some staff members may come to believe that the firm discriminates in enforcing its policy. Specifically, if the manager is a woman and the senior is a man, the justice theory requires that the man should be fired because he is of lower rank in the firm. The firm must also be sensitive to fact that this situation could turn into a sexual harassment matter. On the other hand, the fairer approach may be to terminate the employee who has contributed less to the firm's success in terms of performance and client service. Future potential also could be considered. For example, let's assume that the other partners dislike Giles because he is known to become involved in situations that compromise the firm's position. If Regas is a highly productive member of the firm who is well liked by the partners, other staff members and clients, then it could be that Regas should remain with the firm and Giles asked to resign. Another important issue related to justice is the reaction of other staff members to Morris' decision. If the other staff members believe that Regas is being signaled out as the scapegoat in this situation, then the morale of the staff may be negatively affected. The way that the decision is perceived by other staff members may directly affect their view of the fairness of the decision. This is particularly relevant in the case because Regas appears to be the one who has exercised proper judgment and Giles seems to be putting undue pressure on Regas and, perhaps, taking advantage of his position and influence in the firm. Other staff members may come to resent a decision that demonstrates favoritism toward Giles, regardless of the circumstances. When Morris meets with Giles he should be honest and candid regarding the position of the other partners. Morris should fully disclose the client's concerns and those of the firm, especially as it pertains to the possible higher level of billings and violation of firm policy. The way in which Giles reacts to the statements of Morris and his expression of concern for the firm's interests and those of the client may be an important consideration in Morris' decision. One factor that was previously mentioned and that should have a significant bearing on the firm's decision is the contribution of Giles and Regas to the welfare of the firm and its clients. In respect to Herb Morris as a Managing Partner, Giles and Regas's failure to adhere to firm rules most closely breaks which of the Josephson Pillars? A. Trustworthiness B. Citizenship C. Respect D. Responsibility

A. Trustworthiness

An audit engagement letter:

A.Formalizes the relationship between the auditor and the client for a specific engagement

Pfizer was investigated by the SEC for violating the Foreign Corrupt Practices Act (FCPA) because it allegedly: Made improper payments to foreign officials to obtain regulatory and formulary approvals Made improper payments to foreign officials to obtain sales Made improper payments to foreign officials to obtain increased prescriptions for the company's pharmaceutical products All of the above

All of the above

Audit procedures are different than audit evidence because:

Audit procedures are specific acts performed by the auditor to gather evidence about whether specific assertions are being met

The PCAOB addresses audit results and require the:

Auditor's determination of whether the auditor has obtained sufficient appropriate evidence

11. The due care principle in the AICPA code: A. Addresses the quality of the individual who performs professional services B. Addresses the quality of services performed by the CPA C. Addresses whether the independence standards have been met D. Addresses whether integrity and objectivity have been compromised

B. Addresses the quality of services performed by the CPA

9. The "particularity" provision in the PSLRA allows a plaintiff to: Sue the auditor B. Assert scienter Sue management Assert privity

B. Assert scienter

6. [The following information applies to the questions displayed below.] Occupational fraud comes in many shapes and sizes. The fraud at Rite Aid is one such case. In February 2015, Findling pleaded guilty to charges of conspiracy to commit wire fraud. Foster pleaded guilty to making false statements to authorities. On November 16, 2016, Foster was sentenced to five years in prison and Findling, four years. Findling and Foster were ordered to jointly pay $8,034,183 in restitution. Findling also forfeited and turned over an additional $11.6 million to the government at the time he entered his guilty plea. In sentencing Foster, U.S. Middle District Judge John E. Jones III expressed his astonishment that in one instance at Rite-Aid headquarters, Foster took a multimillion dollar cash pay-off from Findling, then stuffed the money into a bag and flew home on Rite Aid's corporate jet. The charges relate to a nine-year conspiracy to defraud Rite Aid by lying to the company about the sale of surplus inventory to a company owned by Findling when it was sold to third parties for greater amounts. Findling would then kick back a portion of his profits to Foster. Foster's lawyer told Justice Jones that, even though they conned the company, the efforts of Foster and Findling still earned Rite Aid over $100 million "instead of having warehouses filled with unwanted merchandise." Assistant U.S. Attorney Kim Daniel focused on the abuse of trust by Foster and persistent lies to the feds. "The con didn't affect some faceless corporation, Daniel said, "but harmed Rite Aid's 89,000 employees and its stockholders." Findling's attorney, Kevin Buchan, characterized his client as "a good man who made a bad decision." "He succumbed to the pressure. That's why he did what he did and that's why he's here," Buchan said during sentencing. Findling admitted he established a bank account under the name "Rite Aid Salvage Liquidation" and used it to collect the payments from the real buyers of the surplus Rite Aid inventory. After the payments were received, Findling would Page send lesser amounts dictated by Foster to Rite Aid for the goods, thus inducing Rite Aid to believe the inventory had been purchased by J. Finn Industries, not the real buyers. The government alleged Findling received at least $127.7 million from the real buyers of the surplus inventory but, with Foster's help, only provided $98.6 million of that amount to Rite Aid, leaving Findling approximately $29.1 million in profits from the scheme. The government also alleged that Findling kicked back approximately $5.7 million of the $29.1 million to Foster. Assume you are the director of internal auditing at Rite Aid and discover the surplus inventory scheme. You know that Rite Aid has a comprehensive corporate governance system that complies with the requirements of Sarbanes-Oxley, and the company has a strong ethics foundation. Moreover, the internal controls are consistent with the COSO framework. Explain the steps you would take to determine whether you would blow the whistle on the scheme applying the requirements of AICPA Interpretation 102-4 that are depicted in Exhibit 3.11. In that regard, answer the following questions. Whistleblowers who meet the criteria are eligible to receive an award based on what was collected as a result of the monetary sanctions. This can vary from ___________. A. 1 to 10 percent B. 10 to 30 percent C. 15 to 35 percent D. 1 to 50 percent, depending on the magnitude of the fraud

B. 10 to 30 percent

20. The Olympus case was unique from a corporate governance perspective because it deals with: A. A board of directors that was completely under the influence of the CEO B. Cultural differences between Japanese management and western style of management C. Cultural differences between U.S. and non-U.S. companies D. A company that consistently overrides its internal controls and commits fraud

B. Cultural differences between Japanese management and western style of management

20. The SEC requires stealth restatements to be: Disclosed only in periodic reports B. Disclosed only in an 8-K report or amended 10-K/A or 10-Q/A Increased to more 50% of restatements Disclosed in ten business days after determination of need for restatement

B. Disclosed only in an 8-K report or amended 10-K/A or 10-Q/A

15. Which of the following is NOT a common audit deficiency in PCAOB inspections? Inadequate internal controls over financial reporting Maintaining independent audits Lack of due care Inability to exercise the appropriate level of professional skepticism

B. Maintaining an independent audits

11. To prevent subordination of judgment, a CPA should evaluate threats to: A. Independence and Due Care B. Objectivity and Integrity C. Integrity and Due care D. Independence and Scope of Services

B. Objectivity and Integrity

1. Misstatements in the financial statements are most likely to occur when there are: Omission of the auditor's report Omission of notes to the financial statements Failure to disclose major estimates made in the financial statements Failure to disclose major judgments made in the financial statements

B. Omission of notes to the financial statements

5. The most significant change in the Revised AICPA Code of Professional Conduct is: A. A conceptual framework approach for evaluating ethics violations B. The creation of three sections: one for members in public practice, members in business, and one for other members C. Eliminating Code coverage for members in business D. Clarifying that all CPAs must follow the Independence rule regardless of professional services

B. The creation of three sections: one for members in public practice, members in business, and one for other members

17. The KBC Solutions case deals with: A. Whether the controller should give in to the pressure and go along with false financial statements B. Whether the senior in charge of an audit can provide adequate explanations for the accounting for transactions being questioned by the review partner C. Whether the senior in charge of an audit pressures staff accountants to not increase the workload at year-end because of audit budget considerations D. Whether an audit firm should go along with the client's demands for accelerating the recording of revenue

B. Whether the senior in charge of an audit can provide adequate explanations for the accounting for transactions being questioned by the review partner

20. The ethical dilemma for Ricardo in the Juggyfroot case can best be described as: A. Whether to go along with Fred and Ethel's accounting for the loss in value on marketable securities. B. Whether to let his failure to object to inappropriate accounting in the prior year influence whether he goes along with inappropriate accounting in the current year. C. Whether to quit the firm because of the pressure placed on him by his boss to go along with inappropriate accounting. D. Whether to blow the whistle on the inappropriate accounting sanctioned by the firm.

B. Whether to let his failure to object to inappropriate accounting in the prior year influence whether he goes along with inappropriate accounting in the current year.

2. The first step for an auditor who concludes an illegal act exists is to: Bring the matter to the attention of the audit committee Bring the matter to the attention of the SEC Assess the impact of the illegal act on the financial statements Assess the impact of the illegal act on the auditor's opinion

C. Assess the impact of the illegal act on the financial statements

6. The concept that earnings management might align with conservative versus aggressive reporting is known as the: Earnings judgment Earnings accruals C. Earnings continuum Earnings manipulations

C. Earnings continuum

14. A payment made to foreign government officials to ensure that they do what is expected given their job requirements can be characterized as a(n): Bribe Asset misappropriation C. Facilitating Payment Legal Payment

C. Facilitating Payment

16. All of the following are ICFR-related audit deficiencies in PCAOB inspection reports except: Inadequate testing of management review controls Inadequate testing of the top-down risk-based approach Inadequate qualifications of auditors Inadequate identification of information technology risks

C. Inadequate qualifications of auditors

52. The framework of COSO Enterprise Risk Management is to A. Incorporate enhanced internal control principles into enhanced corporate governance B. Incorporate enhanced audit sampling procedures in the testing of internal controls C. Incorporate enhanced corporate governance into internal control principles D. Incorporate enhanced audit sampling procedures in substantive testing

C. Incorporate enhanced corporate governance into internal control principles

4. Refer to question 1. Nortel tried to find a solution to the hundreds of millions of dollars of inventory sitting in its warehouses. The external auditors might have discovered this red flag with which of the following analytical procedures? Inventory growth is higher than revenue growth combined with increasing inventory turnover Inventory shrinkage is lower than revenue growth combined with increasing inventory turnover C. Inventory growth is higher than revenue growth combined with decreasing inventory turnover Inventory shrinkage is lower than revenue shrinkage combined with decreasing inventory turnover

C. Inventory growth is higher than revenue growth combined with decreasing inventory turnover

19. What was the result of the annual inventory audit of the inventory shrinkage and improper accounting at Walmart? A. Inventory shrinkage doubled year-over-year B. Inventory shrinkage increased by 90 percent C. Inventory shrinkage decreased by 90 percent D. There was no change in inventory shrinkage

C. Inventory shrinkage decreased by 90 percent

3. [The following information applies to the questions displayed below.] Bowen H. McCoy Reprinted with permission from "The Parable of the Sadhu," by Bowen H. McCoy, Harvard Business Review. Copyright © Harvard Business Publishing. Last year, as the first participant in the new six-month sabbatical program that Morgan Stanley has adopted, I enjoyed a rare opportunity to collect my thoughts as well as do some traveling. I spent the first three months in Nepal, walking 600 miles through 200 villages in the Himalayas and climbing some 120,000 vertical feet. My sole Western companion on the trip was an anthropologist who shed light on the cultural patterns of the villages that we passed through. During the Nepal hike, something occurred that has had a powerful impact on my thinking about corporate ethics. Although some might argue that the experience has no relevance to business, it was a situation in which a basic ethical dilemma suddenly intruded into the lives of a group of individuals. How the group responded holds a lesson for all organizations, no matter how defined. The Sadhu The Nepal experience was more rugged than I had anticipated. Most commercial treks last two or three weeks and cover a quarter of the distance we traveled. My friend Stephen, the anthropologist, and I were halfway through the 60-day Himalayan part of the trip when we reached the high point, an 18,000-foot pass over a crest that we'd have to traverse to reach the village of Muklinath, an ancient holy place for pilgrims. Six years earlier, I had suffered pulmonary edema, an acute form of altitude sickness, at 16,500 feet in the vicinity of Everest base camp—so we were understandably concerned about what would happen at 18,000 feet. Moreover, the Himalayas were having their wettest spring in 20 years; hip-deep powder and ice had already driven us off one ridge. If we failed to cross the pass, I feared that the last half of our once-in-a-lifetime trip would be ruined. The night before we would try the pass, we camped in a hut at 14,500 feet. In the photos taken at that camp, my face appears wan. The last village we'd passed through was a sturdy two-day walk below us, and I was tired. During the late afternoon, four backpackers from New Zealand joined us, and we spent most of the night awake, anticipating the climb. Below, we could see the fires of two other parties, which turned out to be two Swiss couples and a Japanese hiking club. To get over the steep part of the climb before the sun melted the steps cut in the ice, we departed at 3.30 a.m. The New Zealanders left first, followed by Stephen and myself, our porters and Sherpas, and then the Swiss. The Japanese lingered in their camp. The sky was clear, and we were confident that no spring storm would erupt that day to close the pass. At 15,500 feet, it looked to me as if Stephen was shuffling and staggering a bit, which are symptoms of altitude sickness. (The initial stage of altitude sickness brings a headache and nausea. As the condition worsens, a climber may encounter difficult breathing, disorientation, aphasia, and paralysis.) I felt strong—my adrenaline was flowing—but I was very concerned about my ultimate ability to get across. A couple of our porters were also suffering from the height, and Pasang, our Sherpa sirdar (leader), was worried. Just after daybreak, while we rested at 15,500 feet, one of the New Zealanders, who had gone ahead, came staggering down toward us with a body slung across his shoulders. He dumped the almost naked, barefoot body of an Indian holy man—a sadhu—-at my feet. He had found the pilgrim lying on the ice, shivering and suffering from hypothermia. I cradled the sadhu's head and laid him out on the rocks. The New Zealander was angry. He wanted to get across the pass before the bright sun melted the snow. He said, "Look, I've done what I can. You have porters and Sherpa guides. You care for him. We're going on!" He turned and went back up the mountain to join his friends. I took a carotid pulse and found that the sadhu was still alive. We figured he had probably visited the holy shrines at Muklinath and was on his way home. It was fruitless to question why he had chosen this desperately high route instead of the safe, heavily traveled caravan route through the Kali Gandaki gorge. Or why he was shoeless and almost naked, or how long he had been lying in the pass. The answers weren't going to solve our problem. Stephen and the four Swiss began stripping off their outer clothing and opening their packs. The sadhu was soon clothed from head to foot. He was not able to walk, but he was very much alive. I looked down the mountain and spotted the Japanese climbers, marching up with a horse. Without a great deal of thought, I told Stephen and Pasang that I was concerned about withstanding the heights to come and wanted to get over the pass. I took off after several of our porters who had gone ahead. On the steep part of the ascent where, if the ice steps had given way, I would have slid down about 3,000 feet, I felt vertigo. I stopped for a breather, allowing the Swiss to catch up with me. I inquired about the sadhu and Stephen. They said that the sadhu was fine and that Stephen was just behind them. I set off again for the summit. Stephen arrived at the summit an hour after I did. Still exhilarated by victory, I ran down the slope to congratulate him. He was suffering from altitude sickness—walking 15 steps, then stopping, walking 15 steps, then stopping. Pasang accompanied him all the way up. When I reached them, Stephen glared at me and said, "How do you feel about contributing to the death of a fellow man?" I did not completely comprehend what he meant. "Is the sadhu dead?" I inquired. "No," replied Stephen, "but he surely will be!" After I had gone, followed not long after by the Swiss, Stephen had remained with the sadhu. When the Japanese had arrived, Stephen had asked to use their horse to transport the sadhu down to the hut. They had refused. He had then asked Pasang to have a group of our porters carry the sadhu. Pasang had resisted the idea, saying that the porters would have to exert all their energy to get themselves over the pass. He believed they could not carry a man down 1,000 feet to the hut, reclimb the slope, and get across safely before the snow melted. Pasang had pressed Stephen not to delay any longer. The Sherpas had carried the sadhu down to a rock in the sun at about 15,000 feet and pointed out the hut another 500 feet below. The Japanese had given him food and drink. When they had last seen him, he was listlessly throwing rocks at the Japanese party's dog, which had frightened him. We do not know if the sadhu lived or died. For many of the following days and evenings, Stephen and I discussed and debated our behavior toward the sadhu. Stephen is a committed Quaker with deep moral vision. He said, "I feel that what happened with the sadhu is a good example of the breakdown between the individual ethic and the corporate ethic. No one person was willing to assume ultimate responsibility for the sadhu. Each was willing to do his bit just so long as it was not too inconvenient. When it got to be a bother, everyone just passed the buck to someone else and took off. Jesus was relevant to a more individualistic stage of society, but how do we interpret his teaching today in a world filled with large, impersonal organizations and groups?" I defended the larger group, saying, "Look, we all cared. We all gave aid and comfort. Everyone did his bit. The New Zealander carried him down below the snow line. I took his pulse and suggested we treat him for hypothermia. You and the Swiss gave him clothing and got him warmed up. The Japanese gave him food and water. The Sherpas carried him down to the sun and pointed out the easy trail toward the hut. He was well enough to throw rocks at a dog. What more could we do?" "You have just described the typical affluent Westerner's response to a problem. Throwing money—in this case, food and sweaters—at it, but not solving the fundamentals!" Stephen retorted. "What would satisfy you?" I said. "Here we are, a group of New Zealanders, Swiss, Americans, and Japanese who have never met before and who are at the apex of one of the most powerful experiences of our lives. Some years the pass is so bad no one gets over it. What right does an almost naked pilgrim who chooses the wrong trail have to disrupt our lives? Even the Sherpas had no interest in risking the trip to help him beyond a certain point." Stephen calmly rebutted, "I wonder what the Sherpas would have done if the sadhu had been a well-dressed Nepali, or what the Japanese would have done if the sadhu had been a well-dressed Asian, or what you would have done, Buzz, if the sadhu had been a well-dressed Western woman?" "Where, in your opinion," I asked, "is the limit of our responsibility in a situation like this? We had our own well-being to worry about. Our Sherpa guides were unwilling to jeopardize us or the porters for the sadhu. No one else on the mountain was willing to commit himself beyond certain self-imposed limits." Stephen said, "As individual Christians or people with a Western ethical tradition, we can fulfill our obligations in such a situation only if one, the sadhu dies in our care; two, the sadhu demonstrates to us that he can undertake the two-day walk down to the village; or three, we carry the sadhu for two days down to the village and persuade someone there to care for him." "Leaving the sadhu in the sun with food and clothing—where he demonstrated hand-eye coordination by throwing a rock at a dog—comes close to fulfilling items one and two," I answered. "And it wouldn't have made sense to take him to the village where the people appeared to be far less caring than the Sherpas, so the third condition is impractical. Are you really saying that, no matter what the implications, we should, at the drop of a hat, have changed our entire plan?" The Individual versus the Group Ethic Despite my arguments, I felt and continue to feel guilt about the sadhu. I had literally walked through a classic moral dilemma without fully thinking through the consequences. My excuses for my actions include a high adrenaline flow, a superordinate goal, and a once-in-a-lifetime opportunity—common factors in corporate situations, especially stressful ones. Real moral dilemmas are ambiguous, and many of us hike right through them, unaware that they exist. When, usually after the fact, someone makes an issue of one, we tend to resent his or her bringing it up. Often, when the full import of what we have done (or not done) hits us, we dig into a defensive position from which it is very difficult to emerge. In rare circumstances, we may contemplate what we have done from inside a prison. Had we mountaineers been free of stress caused by the effort and the high altitude, we might have treated the sadhu differently. Yet isn't stress the real test of personal and corporate values? The instant decisions that executives make under pressure reveal the most about personal and corporate character. Among the many questions that occur to me when I ponder my experience with the sadhu are: What are the practical limits of moral imagination and vision? Is there a collective or institutional ethic that differs from the ethics of the individual? At what level of effort or commitment can one discharge one's ethical responsibilities? Not every ethical dilemma has a right solution. Reasonable people often disagree; otherwise there would be no dilemma. In a business context, however, it is essential that managers agree on a process for dealing with dilemmas. Our experience with the sadhu offers an interesting parallel to business situations. An immediate response was mandatory. Failure to act was a decision in itself. Up on the mountain, we could not resign and submit our résumés to a headhunter. In contrast to philosophy, business involves action and implementation—getting things done. Managers must come up with answers based on what they see and what they allow to influence their decision-making processes. On the mountain, none of us but Stephen realized the true dimensions of the situation we were facing. One of our problems was that as a group, we had no process for developing a consensus. We had no sense of purpose or plan. The difficulties of dealing with the sadhu were so complex that no one person could handle them. Because the group did not have a set of preconditions that could guide its action to an acceptable resolution, we reacted instinctively as individuals. The cross-cultural nature of the group added a further layer of complexity. We had no leader with whom we could all identify and in whose purpose we believed. Only Stephen was willing to take charge, but he could not gain adequate support from the group to care for the sadhu. Some organizations do have values that transcend the personal values of their managers. Such values, which go beyond profitability, are usually revealed when the organization is under stress. People throughout the organization generally accept its values, which, because they are not presented as a rigid list of commandments, may be somewhat ambiguous. The stories people tell, rather than printed materials, transmit the organization's conceptions of what is proper behavior. For 20 years, I have been exposed at senior levels to a variety of corporations and organizations. It is amazing how quickly an outsider can sense the tone and style of an organization and, with that, the degree of tolerated openness and freedom to challenge management. Organizations that do not have a heritage of mutually accepted, shared values tend to become unhinged during stress, with each individual bailing out for himself or herself. In the great takeover battles we have witnessed during past years, companies that had strong cultures drew the wagons around them and fought it out, while other companies saw executives—supported by golden parachutes—bail out of the struggles. Because corporations and their members are interdependent, for the corporation to be strong, the members need to share a preconceived notion of correct behavior, a "business ethic," and think of it as a positive force, not a constraint. As an investment banker, I am continually warned by well-meaning lawyers, clients, and associates to be wary of conflicts of interest. Yet if I were to run away from every difficult situation, I wouldn't be an effective investment banker. I have to feel my way through conflicts. An effective manager can't run from risk either; he or she has to confront risk. To feel "safe" in doing that, managers need the guidelines of an agreed-upon process and set of values within the organization. After my three months in Nepal, I spent three months as an executive-in-residence at both the Stanford Business School and the University of California at Berkeley's Center for Ethics and Social Policy of the Graduate Theological Union. Those six months away from my job gave me time to assimilate 20 years of business experience. My thoughts turned often to the meaning of the leadership role in any large organization. Students at the seminary thought of themselves as antibusiness. But when I questioned them, they agreed that they distrusted all large organizations, including the church. They perceived all large organizations as impersonal and opposed to individual values and needs. Yet we all know of organizations in which people's values and beliefs are respected and their expressions encouraged. What makes the difference? Can we identify the difference and, as a result, manage more effectively? The word ethics turns off many and confuses more. Yet the notions of shared values and an agreed-upon process for dealing with adversity and change—what many people mean when they talk about corporate culture—seem to be at the heart of the ethical issue. People who are in touch with their own core beliefs and the beliefs of others and who are sustained by them can be more comfortable living on the cutting edge. At times, taking a tough line or a decisive stand in a muddle of ambiguity is the only ethical thing to do. If a manager is indecisive about a problem and spends time trying to figure out the "good" thing to do, the enterprise may be lost. Business ethics, then, has to do with the authenticity and integrity of the enterprise. To be ethical is to follow the business as well as the cultural goals of the corporation, its owners, its employees, and its customers. Those who cannot serve the corporate vision are not authentic businesspeople and, therefore, are not ethical in the business sense. At this stage of my own business experience, I have a strong interest in organizational behavior. Sociologists are keenly studying what they call corporate stories, legends, and heroes as a way organizations have of transmitting value systems. Corporations such as Arco have even hired consultants to perform an audit of their corporate culture. In a company, a leader is a person who understands, interprets, and manages the corporate value system. Effective managers, therefore, are action-oriented people who resolve conflict, are tolerant of ambiguity, stress, and change, and have a strong sense of purpose for themselves and their organizations. If all this is true, I wonder about the role of the professional manager who moves from company to company. How can he or she quickly absorb the values and culture of different organizations? Or is there, indeed, an art of management that is totally transportable? Assuming that such fungible managers do exist, is it proper for them to manipulate the values of others? What would have happened had Stephen and I carried the sadhu for two days back to the village and become involved with the villagers in his care? In four trips to Nepal, my most interesting experience occurred in 1975, when I lived in a Sherpa home in the Khumbu for five days while recovering from altitude sickness. The high point of Stephen's trip was an invitation to participate in a family funeral ceremony in Manang. Neither experience had to do with climbing the high passes of the Himalayas. Why were we so reluctant to try the lower path, the ambiguous trail? Perhaps because we did not have a leader who could reveal the greater purpose of the trip to us. Why didn't Stephen, with his moral vision, opt to take the sadhu under his personal care? The answer is partly because Stephen was hard-stressed physically himself and partly because, without some support system that encompassed our involuntary and episodic community on the mountain, it was beyond his individual capacity to do so. I see the current interest in corporate culture and corporate value systems as a positive response to pessimism such as Stephen's about the decline of the role of the individual in large organizations. Individuals who operate from a thoughtful set of personal values provide the foundation for a corporate culture. A corporate tradition that encourages freedom of inquiry, supports personal values, and reinforces a focused sense of direction can fulfill the need to combine individuality with the prosperity and success of the group. Without such corporate support, the individual is lost. That is the lesson of the sadhu. In a complex corporate situation, the individual requires and deserves the support of the group. When people cannot find such support in their organizations, they don't know how to act. If such support is forthcoming, a person has a stake in the success of the group and can add much to the process of establishing and maintaining a corporate culture. Management's challenge is to be sensitive to individual needs, to shape them, and to direct and focus them for the benefit of the group as a whole. For each of us, the sadhu lives. Should we stop what we are doing and comfort him; or should we keep trudging up toward the high pass? Should I pause to help the derelict I pass on the street each night as I walk by the Yale Club en route to Grand Central Station? Am I his brother? What is the nature of our responsibility if we consider ourselves to be ethical persons? Perhaps it is to change the values of the group so that it can, with all its resources, take the other road. Burchard's Ethical Dissonance Cycle Model suggests this was a failure of which of the following? A. Low Organization Ethics, Low Individual Ethics Low Low B. High Organizational Ethics, Low Individual Ethics High Low C. Low Organizational Ethics, High Individual Ethics Low High D. None of these

C. Low Organizational Ethics, High Individual Ethics Low High

3. Refer to Question 1. At the very center of the KPMG framework is __________. A. Attitude B. Professional skepticism C. Mindset D. Confidence tendency

C. Mindset

7. An essential element in creating an ethical environment in an audit firm is: Socialization of employees Moral intensity of the situation C. Responsible leadership of the firm Firm values, behavior and attitudes

C. Responsible leadership of the firm

What argument can be made that SOX may not be effective in reducing fraud? It is not as stringent as international standards The SEC has many laws for many years that have not seemed to make much of a difference The penalties under Sarbanes-Oxley are especially stringent, so it may not be enforced Civil and criminal penalties are not effective in preventing financial fraud

Civil and criminal penalties are not effective in preventing financial fraud

20. A danger of situational ethics is that it can be used to rationalize a wrong-doing. Such rationalizations may be seen in all of the following examples except: A. Cheating at the University of North Carolina B. Hiding Anne Frank's family to escape Nazi terror. C. Betty Vinson's actions at World Com D. David Walker's actions at the Government Accountability Office

D. David Walker's actions at the Government Accountability Office

20. Civility requires all but the following: A. Restraint B. Politeness C. Respect D. Disregard

D. Disregard

17. Which of the following was not a finding of the ACFE Report to the Nation on Occupational Fraud? A. Fraud is more likely to be detected by tips than any other way B. Frauds lasted a medium of 16 months before detection C. Asset misappropriation schemes was the most common type of occupational fraud D. External auditors discover about 15 percent of the frauds

D. External auditors discover about 15 percent of the frauds

The auditor's responsibility with regard to illegal acts is greatest when:

The illegal acts have a direct and material effect on financial statement amounts

6. The best explanation why the fraud at Tyco was not discovered and acted on is: A. Failure of the corporate governance system B. External auditors told management to let the fraud go C. Tyco management hid the fraud from the auditors D. The fraud was not material

A. Failure of the corporate governance system

Which of the following are an affirmative defense for those violating the FCPA? The payment is lawful under the written laws of the foreign country The payment can be made for reasonable and bona fide expenditures A and B are both affirmative defenses None of the above

A and B are both affirmative defenses Two affirmative defenses for those accused of violating the act are that the payment is lawful "under the written laws" of the foreign country, and that the payment can be made for "reasonable and bona fide expenditures."

Under section 302 of the SOX the financial statement certifying officials must include in their certification that: A list of all deficiencies in the internal controls and information on any fraud that involves employees who are involved with internal activities has been created The auditors are responsible for the internal controls and have evaluated and reported on them All changes in internal controls or related factors that could have a negative effect on the internal controls have been made The audit report was unmodified

A list of all deficiencies in the internal controls and information on any fraud that involves employees who are involved with internal activities has been created

17. Deontoloty deals with: A. Rights of others and duties toward them B. Consequences of actions C. Following prescribed virtue characteristics D. Following the law as an element of ethical behavior

A. Rights of others and duties toward them

The accounting issue(s) in the Crazy Eddie case were: Accelerating revenues into earlier periods Inflating inventory and net income Capitalizing costs that should have been expensed Off-balance sheet entities

Inflating inventory and net income

10. Milton Manufacturing Company produces a variety of textiles for distribution to wholesale manufacturers of clothing products. The company's primary operations are located in Long Island City, New York, with branch factories and warehouses in several surrounding cities. Milton Manufacturing is a closely held company, and Irv Milton is the president. He started the business in 2008, and it grew in revenue from $500,000 to $5 million in 10 years. However, the revenues declined to $4.5 million in 2018. Net cash flows from all activities also were declining. The company was concerned because it planned to borrow $20 million from the credit markets in the fourth quarter of 2019. Irv Milton met with Ann Plotkin, the chief accounting officer (and also a CPA), on January 15, 2019, to discuss a proposal by Plotkin to control cash outflows. He was not overly concerned about the recent decline in net cash flows from operating activities because these amounts were expected to increase in 2019 as a result of projected higher levels of revenue and cash collections. However, that was not Plotkin's view. Plotkin knew that if overall negative capital expenditures continued to increase at the rate of 40 percent per year, Milton Manufacturing probably would not be able to borrow the $20 million. Therefore, she suggested establishing a new policy to be instituted on a temporary basis. Each plant's capital expenditures for 2019 for investing activities would be limited to the level of those capital expenditures in 2017, the last year of an overall positive cash flow. Operating activity cash flows had no such restrictions. Irv Milton pointedly asked Plotkin about the possible negative effects of such a policy, but in the end, he was convinced that it was necessary to initiate the policy immediately to stem the tide of increases in capital expenditures. A summary of cash flows appears in Exhibit 1. . EXHIBIT 1MILTON MANUFACTURING COMPANYSummary of Cash FlowsFor the Years Ended December 31, 2018 and 2017 (000 omitted) December 31, 2018December 31, 2017Cash Flows from Operating ActivitiesNet income $372 $542 Adjustments to reconcile net income to net cash provided by operating activities (2,350) (2,383) Net cash provided by operating activities $(1,978) $(1,841) Cash Flows from Investing ActivitiesCapital expenditures $(1,420) $(1,918) Other investing inflows (outflows) 176 84 Net cash used in investing activities $(1,244) $(1,834) Cash Flows from Financing ActivitiesNet cash provided (used in) financing activities $168 $1,476 Increase (decrease) in cash and cash equivalents $(3,054) $(2,199) Cash and cash equivalents—beginning of the year $3,191 $5,390 Cash and cash equivalents—end of the year $147 $3,191 Sammie Markowicz is the plant manager at the headquarters in Long Island City. He was informed of the new capital expenditure policy by Ira Sugofsky, the vice president for operations. Markowicz told Sugofsky that the new policy could negatively affect plant operations because certain machinery and equipment, essential to the production process, had been breaking down more frequently during the past two years. The problem was primarily with the motors. New and better models with more efficient motors had been developed by an overseas supplier. These were expected to be available by April 2019. Markowicz planned to order 1,000 of these new motors for the Long Island City operation, and he expected that other plant managers would do the same. Sugofsky told Markowicz to delay the acquisition of new motors for one year, after which time the restrictive capital expenditure policy would be lifted. Markowicz reluctantly agreed. Milton Manufacturing operated profitably during the first six months of 2019. Net cash inflows from operating activities exceeded outflows by $1,250,000 during this time period. It was the first time in two years that there was a positive cash flow from operating activities. Production operations accelerated during the third quarter as a result of increased demand for Milton's textiles. An aggressive advertising campaign initiated in late 2018 seemed to bear fruit for the company. Unfortunately, the increased level of production put pressure on the machines, and the degree of breakdown was increasing. A big problem was that the motors wore out prematurely. Markowicz was concerned about the machine breakdown and increasing delays in meeting customer demands for the shipment of the textile products. He met with the other branch plant managers, who complained bitterly to him about not being able to spend the money to acquire new motors. Markowicz was very sensitive to their needs. He informed them that the company's regular supplier had recently announced a 25 percent price increase for the motors. Other suppliers followed suit, and Markowicz saw no choice but to buy the motors from the overseas supplier. That supplier's price was lower, and the quality of the motors would significantly enhance the machines' operating efficiency. However, the company's restrictions on capital expenditures stood in the way of making the purchase. Markowicz approached Sugofsky and told him about the machine breakdowns and the concerns of other plant managers. Sugofsky seemed indifferent but reminded Markowicz of the capital expenditure restrictions in place and that the Long Island City plant was committed to keeping expenditures at the same level as it had in 2017. Markowicz argued that he was faced with an unusual situation and he had to act now. Sugofsky hurriedly left, but not before he said to Markowicz, "You and I may not agree with it, but a policy is a policy." Markowicz reflected on his obligations to Milton Manufacturing. He was conflicted because he viewed his primary responsibility and that of the other plant managers to ensure that the production process operated smoothly. The last thing the workers needed right now was a stoppage of production because of machine failure. At this time, Markowicz learned of a 30-day promotional price offered by the overseas supplier to gain new customers by lowering the price for all motors by 25 percent. Coupled with the 25 percent increase in price by the company's supplier, Markowicz knew he could save the company $1,500, or 50 percent of cost, on each motor purchased from the overseas supplier. After carefully considering the implications of his intended action, Markowicz contacted the other plant managers and informed them that while they were not obligated to follow his lead because of the capital expenditure policy, he planned to purchase 1,000 motors from the overseas supplier for the headquarters plant in Long Island City. Markowicz made the purchase at the beginning of the fourth quarter of 2019 without informing Sugofsky. He convinced the plant accountant to record the $1.5 million expenditure as an operating (not capital) expenditure because he knew that the higher level of operating cash inflows resulting from increased revenues would mask the effect of his expenditure. In fact, Markowicz was proud that he had "saved" the company $1.5 million, and he did what was necessary to ensure that the Long Island City plant continued to operate. The acquisitions by Markowicz and the other plant managers enabled the company to keep up with the growing demand for textiles, and the company finished the year with record high levels of profit and net cash inflows from all activities. Markowicz was lauded by his team for his leadership. The company successfully executed a loan agreement with Second Bankers Hours & Trust Co. The $20 million borrowed was received on October 3, 2019. During the course of an internal audit of the 2019 financial statements, Beverly Wald, the chief internal auditor (and also a CPA), discovered that there was an unusually high number of motors in inventory. A complete check of the inventory determined that $1 million worth of motors remained on hand. Wald reported her findings to Ann Plotkin, and together they went to see Irv Milton. After being informed of the situation, Milton called in Sugofsky. When Wald told him about her findings, Sugofsky's face turned beet red. He told Wald that he had instructed Markowicz not to make the purchase. He also inquired about the accounting since Wald had said it was wrong. Wald explained to Sugofsky that the $1 million should be accounted for as inventory, not as an operating cash outflow: "What we do in this case is transfer the motors out of inventory and into the machinery account once they are placed into operation because, according to the documentation, the motors added significant value to the asset." Sugofsky had a perplexed look on his face. Finally, Irv Milton took control of the accounting lesson by asking, "What's the difference? Isn't the main issue that Markowicz did not follow company policy?" The three officers in the room shook their heads simultaneously, perhaps in gratitude for being saved the additional lecturing. Milton then said he wanted Wald and Plotkin to discuss the alternatives on how best to deal with the Markowicz situation and present the choices to him in one week.Use the Integrated Ethical Decision-Making Process to guide you in answering the following: A. Operating cash outflow. B. Investing cash outflow. C. Financing cash outflow. D. Non-cash transaction.

B. Investing cash outflow

12. Tax avoidance transactions are often called: A. Earnings management B. Tax shelters C. Employee fraud D. Attest services

B. Tax shelters

14. In the business world, the term disgorgement means: A. To give up one's meal after eating B. To return profits earned illegally C. To return ill-gotten gains D. To give up one's board position after a fraud incident

C. To return ill-gotten gains

With respect to U.S. GAAP, the SEC's approach to determining whether International Financial Reporting Standards (IFRS) should be allowed for and/or replace GAAP can be described as: Transparency Comparability Convergence Condorsement

Condorsement The current approach is dubbed "condorsement." This approach is in essence an endorsement approach that would share characteristics of the incorporation approaches with other jurisdictions that have incorporated or are incorporating IFRS into their financial reporting systems. However, during the undefined transitional period, the framework would employ aspects of the convergence approach to address existing differences between IFRS and U.S. GAAP.

50. PCAOB Auditing Standard No.16 require the auditor to communicate with the audit committee all but? A. Significant accounting policies and practices B. Critical accounting practices and policies C. Significant unusual transactions D. The procedures followed by the auditor in evaluating evidence

D. The procedures followed by the auditor in evaluating evidence

4. The growth in consulting services raises questions about which professional obligation? A. Objectivity B. Confidentiality C. Competence D. Conflicts of interest

D. Conflicts of interest

6. Refer to Question 5. Helen Strom is in an ethical dilemma due to a(n) ____________. A. Adverse interest threat B. Familiarity threat C. Undue influence threat D. Financial self-interest threat

D. Financial self-interest threat

2. [The following information applies to the questions displayed below.] Bowen H. McCoy Reprinted with permission from "The Parable of the Sadhu," by Bowen H. McCoy, Harvard Business Review. Copyright © Harvard Business Publishing. Last year, as the first participant in the new six-month sabbatical program that Morgan Stanley has adopted, I enjoyed a rare opportunity to collect my thoughts as well as do some traveling. I spent the first three months in Nepal, walking 600 miles through 200 villages in the Himalayas and climbing some 120,000 vertical feet. My sole Western companion on the trip was an anthropologist who shed light on the cultural patterns of the villages that we passed through. During the Nepal hike, something occurred that has had a powerful impact on my thinking about corporate ethics. Although some might argue that the experience has no relevance to business, it was a situation in which a basic ethical dilemma suddenly intruded into the lives of a group of individuals. How the group responded holds a lesson for all organizations, no matter how defined. The Sadhu The Nepal experience was more rugged than I had anticipated. Most commercial treks last two or three weeks and cover a quarter of the distance we traveled. My friend Stephen, the anthropologist, and I were halfway through the 60-day Himalayan part of the trip when we reached the high point, an 18,000-foot pass over a crest that we'd have to traverse to reach the village of Muklinath, an ancient holy place for pilgrims. Six years earlier, I had suffered pulmonary edema, an acute form of altitude sickness, at 16,500 feet in the vicinity of Everest base camp—so we were understandably concerned about what would happen at 18,000 feet. Moreover, the Himalayas were having their wettest spring in 20 years; hip-deep powder and ice had already driven us off one ridge. If we failed to cross the pass, I feared that the last half of our once-in-a-lifetime trip would be ruined. The night before we would try the pass, we camped in a hut at 14,500 feet. In the photos taken at that camp, my face appears wan. The last village we'd passed through was a sturdy two-day walk below us, and I was tired. During the late afternoon, four backpackers from New Zealand joined us, and we spent most of the night awake, anticipating the climb. Below, we could see the fires of two other parties, which turned out to be two Swiss couples and a Japanese hiking club. To get over the steep part of the climb before the sun melted the steps cut in the ice, we departed at 3.30 a.m. The New Zealanders left first, followed by Stephen and myself, our porters and Sherpas, and then the Swiss. The Japanese lingered in their camp. The sky was clear, and we were confident that no spring storm would erupt that day to close the pass. At 15,500 feet, it looked to me as if Stephen was shuffling and staggering a bit, which are symptoms of altitude sickness. (The initial stage of altitude sickness brings a headache and nausea. As the condition worsens, a climber may encounter difficult breathing, disorientation, aphasia, and paralysis.) I felt strong—my adrenaline was flowing—but I was very concerned about my ultimate ability to get across. A couple of our porters were also suffering from the height, and Pasang, our Sherpa sirdar (leader), was worried. Just after daybreak, while we rested at 15,500 feet, one of the New Zealanders, who had gone ahead, came staggering down toward us with a body slung across his shoulders. He dumped the almost naked, barefoot body of an Indian holy man—a sadhu—-at my feet. He had found the pilgrim lying on the ice, shivering and suffering from hypothermia. I cradled the sadhu's head and laid him out on the rocks. The New Zealander was angry. He wanted to get across the pass before the bright sun melted the snow. He said, "Look, I've done what I can. You have porters and Sherpa guides. You care for him. We're going on!" He turned and went back up the mountain to join his friends. I took a carotid pulse and found that the sadhu was still alive. We figured he had probably visited the holy shrines at Muklinath and was on his way home. It was fruitless to question why he had chosen this desperately high route instead of the safe, heavily traveled caravan route through the Kali Gandaki gorge. Or why he was shoeless and almost naked, or how long he had been lying in the pass. The answers weren't going to solve our problem. Stephen and the four Swiss began stripping off their outer clothing and opening their packs. The sadhu was soon clothed from head to foot. He was not able to walk, but he was very much alive. I looked down the mountain and spotted the Japanese climbers, marching up with a horse. Without a great deal of thought, I told Stephen and Pasang that I was concerned about withstanding the heights to come and wanted to get over the pass. I took off after several of our porters who had gone ahead. On the steep part of the ascent where, if the ice steps had given way, I would have slid down about 3,000 feet, I felt vertigo. I stopped for a breather, allowing the Swiss to catch up with me. I inquired about the sadhu and Stephen. They said that the sadhu was fine and that Stephen was just behind them. I set off again for the summit. Stephen arrived at the summit an hour after I did. Still exhilarated by victory, I ran down the slope to congratulate him. He was suffering from altitude sickness—walking 15 steps, then stopping, walking 15 steps, then stopping. Pasang accompanied him all the way up. When I reached them, Stephen glared at me and said, "How do you feel about contributing to the death of a fellow man?" I did not completely comprehend what he meant. "Is the sadhu dead?" I inquired. "No," replied Stephen, "but he surely will be!" After I had gone, followed not long after by the Swiss, Stephen had remained with the sadhu. When the Japanese had arrived, Stephen had asked to use their horse to transport the sadhu down to the hut. They had refused. He had then asked Pasang to have a group of our porters carry the sadhu. Pasang had resisted the idea, saying that the porters would have to exert all their energy to get themselves over the pass. He believed they could not carry a man down 1,000 feet to the hut, reclimb the slope, and get across safely before the snow melted. Pasang had pressed Stephen not to delay any longer. The Sherpas had carried the sadhu down to a rock in the sun at about 15,000 feet and pointed out the hut another 500 feet below. The Japanese had given him food and drink. When they had last seen him, he was listlessly throwing rocks at the Japanese party's dog, which had frightened him. We do not know if the sadhu lived or died. For many of the following days and evenings, Stephen and I discussed and debated our behavior toward the sadhu. Stephen is a committed Quaker with deep moral vision. He said, "I feel that what happened with the sadhu is a good example of the breakdown between the individual ethic and the corporate ethic. No one person was willing to assume ultimate responsibility for the sadhu. Each was willing to do his bit just so long as it was not too inconvenient. When it got to be a bother, everyone just passed the buck to someone else and took off. Jesus was relevant to a more individualistic stage of society, but how do we interpret his teaching today in a world filled with large, impersonal organizations and groups?" I defended the larger group, saying, "Look, we all cared. We all gave aid and comfort. Everyone did his bit. The New Zealander carried him down below the snow line. I took his pulse and suggested we treat him for hypothermia. You and the Swiss gave him clothing and got him warmed up. The Japanese gave him food and water. The Sherpas carried him down to the sun and pointed out the easy trail toward the hut. He was well enough to throw rocks at a dog. What more could we do?" "You have just described the typical affluent Westerner's response to a problem. Throwing money—in this case, food and sweaters—at it, but not solving the fundamentals!" Stephen retorted. "What would satisfy you?" I said. "Here we are, a group of New Zealanders, Swiss, Americans, and Japanese who have never met before and who are at the apex of one of the most powerful experiences of our lives. Some years the pass is so bad no one gets over it. What right does an almost naked pilgrim who chooses the wrong trail have to disrupt our lives? Even the Sherpas had no interest in risking the trip to help him beyond a certain point." Stephen calmly rebutted, "I wonder what the Sherpas would have done if the sadhu had been a well-dressed Nepali, or what the Japanese would have done if the sadhu had been a well-dressed Asian, or what you would have done, Buzz, if the sadhu had been a well-dressed Western woman?" "Where, in your opinion," I asked, "is the limit of our responsibility in a situation like this? We had our own well-being to worry about. Our Sherpa guides were unwilling to jeopardize us or the porters for the sadhu. No one else on the mountain was willing to commit himself beyond certain self-imposed limits." Stephen said, "As individual Christians or people with a Western ethical tradition, we can fulfill our obligations in such a situation only if one, the sadhu dies in our care; two, the sadhu demonstrates to us that he can undertake the two-day walk down to the village; or three, we carry the sadhu for two days down to the village and persuade someone there to care for him." "Leaving the sadhu in the sun with food and clothing—where he demonstrated hand-eye coordination by throwing a rock at a dog—comes close to fulfilling items one and two," I answered. "And it wouldn't have made sense to take him to the village where the people appeared to be far less caring than the Sherpas, so the third condition is impractical. Are you really saying that, no matter what the implications, we should, at the drop of a hat, have changed our entire plan?" The Individual versus the Group Ethic Despite my arguments, I felt and continue to feel guilt about the sadhu. I had literally walked through a classic moral dilemma without fully thinking through the consequences. My excuses for my actions include a high adrenaline flow, a superordinate goal, and a once-in-a-lifetime opportunity—common factors in corporate situations, especially stressful ones. Real moral dilemmas are ambiguous, and many of us hike right through them, unaware that they exist. When, usually after the fact, someone makes an issue of one, we tend to resent his or her bringing it up. Often, when the full import of what we have done (or not done) hits us, we dig into a defensive position from which it is very difficult to emerge. In rare circumstances, we may contemplate what we have done from inside a prison. Had we mountaineers been free of stress caused by the effort and the high altitude, we might have treated the sadhu differently. Yet isn't stress the real test of personal and corporate values? The instant decisions that executives make under pressure reveal the most about personal and corporate character. Among the many questions that occur to me when I ponder my experience with the sadhu are: What are the practical limits of moral imagination and vision? Is there a collective or institutional ethic that differs from the ethics of the individual? At what level of effort or commitment can one discharge one's ethical responsibilities? Not every ethical dilemma has a right solution. Reasonable people often disagree; otherwise there would be no dilemma. In a business context, however, it is essential that managers agree on a process for dealing with dilemmas. Our experience with the sadhu offers an interesting parallel to business situations. An immediate response was mandatory. Failure to act was a decision in itself. Up on the mountain, we could not resign and submit our résumés to a headhunter. In contrast to philosophy, business involves action and implementation—getting things done. Managers must come up with answers based on what they see and what they allow to influence their decision-making processes. On the mountain, none of us but Stephen realized the true dimensions of the situation we were facing. One of our problems was that as a group, we had no process for developing a consensus. We had no sense of purpose or plan. The difficulties of dealing with the sadhu were so complex that no one person could handle them. Because the group did not have a set of preconditions that could guide its action to an acceptable resolution, we reacted instinctively as individuals. The cross-cultural nature of the group added a further layer of complexity. We had no leader with whom we could all identify and in whose purpose we believed. Only Stephen was willing to take charge, but he could not gain adequate support from the group to care for the sadhu. Some organizations do have values that transcend the personal values of their managers. Such values, which go beyond profitability, are usually revealed when the organization is under stress. People throughout the organization generally accept its values, which, because they are not presented as a rigid list of commandments, may be somewhat ambiguous. The stories people tell, rather than printed materials, transmit the organization's conceptions of what is proper behavior. For 20 years, I have been exposed at senior levels to a variety of corporations and organizations. It is amazing how quickly an outsider can sense the tone and style of an organization and, with that, the degree of tolerated openness and freedom to challenge management. Organizations that do not have a heritage of mutually accepted, shared values tend to become unhinged during stress, with each individual bailing out for himself or herself. In the great takeover battles we have witnessed during past years, companies that had strong cultures drew the wagons around them and fought it out, while other companies saw executives—supported by golden parachutes—bail out of the struggles. Because corporations and their members are interdependent, for the corporation to be strong, the members need to share a preconceived notion of correct behavior, a "business ethic," and think of it as a positive force, not a constraint. As an investment banker, I am continually warned by well-meaning lawyers, clients, and associates to be wary of conflicts of interest. Yet if I were to run away from every difficult situation, I wouldn't be an effective investment banker. I have to feel my way through conflicts. An effective manager can't run from risk either; he or she has to confront risk. To feel "safe" in doing that, managers need the guidelines of an agreed-upon process and set of values within the organization. After my three months in Nepal, I spent three months as an executive-in-residence at both the Stanford Business School and the University of California at Berkeley's Center for Ethics and Social Policy of the Graduate Theological Union. Those six months away from my job gave me time to assimilate 20 years of business experience. My thoughts turned often to the meaning of the leadership role in any large organization. Students at the seminary thought of themselves as antibusiness. But when I questioned them, they agreed that they distrusted all large organizations, including the church. They perceived all large organizations as impersonal and opposed to individual values and needs. Yet we all know of organizations in which people's values and beliefs are respected and their expressions encouraged. What makes the difference? Can we identify the difference and, as a result, manage more effectively? The word ethics turns off many and confuses more. Yet the notions of shared values and an agreed-upon process for dealing with adversity and change—what many people mean when they talk about corporate culture—seem to be at the heart of the ethical issue. People who are in touch with their own core beliefs and the beliefs of others and who are sustained by them can be more comfortable living on the cutting edge. At times, taking a tough line or a decisive stand in a muddle of ambiguity is the only ethical thing to do. If a manager is indecisive about a problem and spends time trying to figure out the "good" thing to do, the enterprise may be lost. Business ethics, then, has to do with the authenticity and integrity of the enterprise. To be ethical is to follow the business as well as the cultural goals of the corporation, its owners, its employees, and its customers. Those who cannot serve the corporate vision are not authentic businesspeople and, therefore, are not ethical in the business sense. At this stage of my own business experience, I have a strong interest in organizational behavior. Sociologists are keenly studying what they call corporate stories, legends, and heroes as a way organizations have of transmitting value systems. Corporations such as Arco have even hired consultants to perform an audit of their corporate culture. In a company, a leader is a person who understands, interprets, and manages the corporate value system. Effective managers, therefore, are action-oriented people who resolve conflict, are tolerant of ambiguity, stress, and change, and have a strong sense of purpose for themselves and their organizations. If all this is true, I wonder about the role of the professional manager who moves from company to company. How can he or she quickly absorb the values and culture of different organizations? Or is there, indeed, an art of management that is totally transportable? Assuming that such fungible managers do exist, is it proper for them to manipulate the values of others? What would have happened had Stephen and I carried the sadhu for two days back to the village and become involved with the villagers in his care? In four trips to Nepal, my most interesting experience occurred in 1975, when I lived in a Sherpa home in the Khumbu for five days while recovering from altitude sickness. The high point of Stephen's trip was an invitation to participate in a family funeral ceremony in Manang. Neither experience had to do with climbing the high passes of the Himalayas. Why were we so reluctant to try the lower path, the ambiguous trail? Perhaps because we did not have a leader who could reveal the greater purpose of the trip to us. Why didn't Stephen, with his moral vision, opt to take the sadhu under his personal care? The answer is partly because Stephen was hard-stressed physically himself and partly because, without some support system that encompassed our involuntary and episodic community on the mountain, it was beyond his individual capacity to do so. I see the current interest in corporate culture and corporate value systems as a positive response to pessimism such as Stephen's about the decline of the role of the individual in large organizations. Individuals who operate from a thoughtful set of personal values provide the foundation for a corporate culture. A corporate tradition that encourages freedom of inquiry, supports personal values, and reinforces a focused sense of direction can fulfill the need to combine individuality with the prosperity and success of the group. Without such corporate support, the individual is lost. That is the lesson of the sadhu. In a complex corporate situation, the individual requires and deserves the support of the group. When people cannot find such support in their organizations, they don't know how to act. If such support is forthcoming, a person has a stake in the success of the group and can add much to the process of establishing and maintaining a corporate culture. Management's challenge is to be sensitive to individual needs, to shape them, and to direct and focus them for the benefit of the group as a whole. For each of us, the sadhu lives. Should we stop what we are doing and comfort him; or should we keep trudging up toward the high pass? Should I pause to help the derelict I pass on the street each night as I walk by the Yale Club en route to Grand Central Station? Am I his brother? What is the nature of our responsibility if we consider ourselves to be ethical persons? Perhaps it is to change the values of the group so that it can, with all its resources, take the other road. One might say that each group was operating at which ethical level? A. Rest's notion of Law and Order Stage 4 B. Kohlberg's Moral Sensitivity C. Thorne's Moral Development Leading to Ethical Motivation D. Kohlberg's Stage Two

D. Kohlberg's Stage Two

14. A threat to replace a CPA or CPA firm because of a disagreement with the client over the application of an accounting principle is: A. Management Participation Threat B. Advocacy Threat C. Self-Review Threat D. Undue Influence Threat

D. Undue Influence Threat

Which of the following is NOT addressed in the Diamond Foods case?

Depreciation of almond trees

Which of the following is NOT a requirement of Section 10A of the Securities Exchange Act of 1934 for auditors of public companies with respect to illegal acts? Determine whether it is likely that an illegal act has occurred Determine what the possible effect of the illegal act is on the financial statements Determine whether management participated in the illegal act Inform management and assure that the audit committee knows about any material illegal act that has been detected

Determine whether management participated in the illegal act

16. Required Information Refer to Question 13. At the time, revenue recognition required a firm to include ___________. A. Persuasive evidence of an arrangement B. Receipt of a purchase order from the buyer's budget and the Purchasing Office C. The seller's price, which is fixed or determinable D. Delivery, which is assured by the FOB seller destination terms E. Persuasive evidence of an arrangement and a fixed or determinable seller's price.

E. Persuasive evidence of an arrangement and a fixed or determinable seller's price.

What is a worrisome consequence under the joint and several liability principle? Each negligent party is liable for the portion of the damages for which it is responsible All negligent parties are always liable for damages Only the negligent party considered to have "deep pockets" is held liable for damages Each negligent party could be held liable for the total of damages suffered

Each negligent party could be held liable for the total of damages suffered What is a worrisome consequence under the joint and several liability principle? Each negligent party is liable for the portion of the damages for which it is responsible All negligent parties are always liable for damages Only the negligent party considered to have "deep pockets" is held liable for damages Each negligent party could be held liable for the total of damages suffered

A payment made to foreign government officials to ensure that they do what is expected given their job requirements can be characterized as a(n): Bribe Asset misappropriation Facilitating Payment Legal Payment

Facilitating Payment

Kay and Lee performed an audit required for Holligan Industries to extend a loan with Second National Bank & Trust. Kay and Lee may be liable for: Second National Bank & Trust declining to extend the loan Ordinary negligence to the bank that loaned money to Holligan because the firm did not discover improper accounting for revenue and assets Gross negligence to the bank that loaned money to Holligan because the firm did not discover improper accounting for receivables and inventory Holligan declaring bankruptcy without a going-concern emphasis of matter

Gross negligence to the bank that loaned money to Holligan because the firm did not discover improper accounting for receivables and inventory

In the Advanced Battery Technologies case, the opinion of the court: Held the auditors legally liable because they failed to exercise due care and to demonstrate professional skepticism Held the auditors legally liable because they failed to gather sufficient, competent evidential matter to warrant the expression of an opinion Held the auditors not legally liable because the plaintiff could not plead with particularity that the audit work was so deficient as to amount to no audit at all Held the auditors were not legally liable because they met all professional standards

Held the auditors not legally liable because the plaintiff could not plead with particularity that the audit work was so deficient as to amount to no audit at all

The International Federation of Accountants (IFAC) Policy Position Paper #4 A Public Interest Framework for the Accountancy Position addresses: Bribery on an international level High standards of ethical behavior and professional judgment required in the accountancy profession Internal control to prevent fraud Corporate governance systems

High standards of ethical behavior and professional judgment required in the accountancy profession

Which of the following is an element of the introductory paragraph of an auditor's report under AICPA standards?

Identifies the entity, financial statements being audited and time period

The international body responsible for developing and issuing high-quality ethical standards and other pronouncements for professional accountants for use around the world is: International Organization of Securities Commissions International Accounting Standards Board International Ethics Board International Ethics Standards Board for Accountants

International Ethics Standards Board for Accountants

Confidential client information can be disclosed outside the entity without violating the AICPA Code of Professional Conduct in each of the following situations except when:

It protects the auditor's accounting for fraud and illegal acts

Which of the following is not correct about materiality?

Materiality should be predictable from audit to audit so that the readers of financial statements know what constitutes materiality

The executives of McKesson and Robbins Pharmaceuticals were able to steal about $2.9 million in 1939 because: Its auditors did not follow the generally accepted auditing standards (GAAS) at the time The independent audit of financial statements was not required at the time Physical inspection of inventory was not performed by the auditors The auditors were not independent and conspired with management to steal the funds

Physical inspection of inventory was not performed by the auditors (this was not a required audit procedure at the time)

Which of the following is NOT one of the most relevant sources of civil liabilities for auditors charged with failing to adhere to the requirements of the laws in carrying out professional obligations? Securities Act of 1933 Private Securities Litigation Reform Act of 1995 Securities and Exchange Act of 1934 Sarbanes-Oxley Act of 2002

Private Securities Litigation Reform Act of 1995

The Private Securities Litigation Reform Act of 1995 applies the practice of ______ to auditor liability determinations. Risk assessment Joint and several liability Particularized standard Proportionate liability

Proportionate liability (The PSLRA changes the legal liability standard of auditors from joint-and-several liability to proportionate liability)

The Securities and Exchange Act of 1934: Limits the financial liability of independent auditors except in the case of gross negligence Requires the filing of audited annual statements and reviewed quarterly statements Regulates the initial offering financial statements of securities Regulates which services may be performed for a publicly-traded company by an audit firm

Requires the filing of audited annual statements and reviewed quarterly statements

The section of SOX that requires management to prepare a report on its internal controls is: Section 302 Section 404 Section 808 Section 10A(b)

Section 404

In which of the following circumstances would a qualified opinion be appropriate?

The statements are not in conformity with generally accepted accounting principles regarding stock options plans and these misstatements do not have pervasive effect on the financial statements

Which of the following is NOT one of the defenses an auditor can use against third party lawsuits for fraud? The third party was not in contractual privity The auditor did not have a duty to the third party The third party was negligent The third party did not suffer a loss

The third party was not in contractual privity (contractual privity is not necessary to bring up a lawsuit)

In Grant Thornton v. Prospect High Income Fund, Grant used each of the following points to defend itself against legal liability except: There was no evidence of a causal connection between Grant's alleged misrepresentation and the funds' alleged injury There was no evidence of actual and justifiable reliance There was no evidence of the loss suffered by the plaintiffs Liability for fraudulent misrepresentations runs only to those whom the auditor knows and intends to influence, all of which was not present

There was no evidence of the loss suffered by the plaintiffs

The Ultramares v. Touche case of 1933 held that a cause of action based on negligence could not be maintained by a third party who was not in contractual privity; however, it did leave open the possibility that: Third parties that were "foreseeable" may sue for ordinary negligence Third parties may sue if one of the parties in contractual privity allowed it to Third parties may sue in the case of fraud or constructive fraud Third parties who used the financial statements may sue

Third parties may sue in the case of fraud or constructive fraud

The Committee of Sponsoring Organizations of the Treadway Committee (COSO) analyzed the financial reporting of public companies during the 1998-2007 periods when business failures due to accounting fraud were high and found that:

Top management was frequently involved in the fraud with the CEO and/or CFO being the most frequently involved

In the Vertical Pharmaceuticals case, Deloitte & Touche was sued because: Vertical claimed the firm's false accusations of fraudulent conduct led to the withdrawal of another public company's planned acquisition of Vertical Deloitte failed to issue an audit report on a timely basis thereby leading to the withdrawal by another public company's planned acquisition of Vertical Vertical claimed Deloitte committed fraud in its audit of Vertical Deloitte issued a modified opinion (adverse) on Vertical's financial statements thereby leading to the withdrawal by another public company's planned acquisition of Vertical

Vertical claimed the firm's false accusations of fraudulent conduct led to the withdrawal of another public company's planned acquisition of Vertical

Audit procedures are different than audit evidence because: a. Audit procedures address the competency and sufficiency of audit evidence b. Audit procedures are specific acts performed by the auditor to gather evidence about whether specific assertions are being met c. Audit procedures are specific acts to assess whether the financial statements "present fairly" d. Audit procedures do not have to be determined based on risk assessment

b

The difference between errors in the financial statements as compared to fraud is: a. An error is always an intentional act designed to deceive another party b. Fraud is always an intentional act designed to deceive another party c. An error always leads to a qualification of the auditors' opinion d. Fraudulent financial reporting is always material in amount

b

Which of the following is not true of "reasonable assurance"? a. The auditors have exercised due care b. The audit opinion is a guarantee that material misstatements have been identified c. The audit has been properly planned and supervised d. The auditors have followed GAAS

b

1. Deliberately underbidding for an audit engagement to obtain a client and secure more lucrative management advisory or consulting services is known as? A. Opinion shopping B. High-balling C. Low-balling D. Client shopping

c

In the Reauditing Financial Statements case, all of the following would be appropriate questions to ask a predecessor auditor except: a. why the predecessor auditor was fired b. whether there were any differences of opinion between management and the predecessor auditor c. whether they could obtain the predecessor auditor workpapers d. whether there were any integrity concerns of top management

c

Which of the following is NOT one of the communications that should be made by external auditors to the audit committee? a. Accounting estimates b. Threats to auditor independence and related safeguards to mitigate those threats c. Significant deficiencies in audit procedures d. The nature and scope of significant assumptions

c

Auditors are required to communicate with the audit committee for all but which of the following: a. Significant accounting policies and practices b. Critical accounting practices and policies c. Significant unusual transactions d. The procedures followed by the auditor in evaluating evidence

d

In the ZZZZ best case, Barry Minkow was charged with:

A fraudulent insurance restoration scam

In Grant Thornton v. Prospect High Income Fund, the Texas Supreme Court held:

A. Auditors were not liable for accurate accounting to anyone who reads and relies upon the audit report

7. On March 4, 2009, the SEC reached an agreement with Krispy Kreme Doughnuts, Inc., and issued a cease-and-desist order to settle charges that the company fraudulently inflated or otherwise misrepresented its earnings for the fourth quarter of its FY2003 and each quarter of FY2004. By its improper accounting, Krispy Kreme avoided lowering its earnings guidance and improperly reported earnings per share (EPS) for that time period; these amounts exceeded its previously announced EPS guidance by 1 cent. The primary transactions described in this case are "round-trip" transactions. In each case, Krispy Kreme paid money to a franchisee with the understanding that the franchisee would pay the money back to Krispy Kreme in a prearranged manner that would allow the company to record additional pretax income in an amount roughly equal to the funds originally paid to the franchisee. There were three round-trip transactions cited in the SEC consent agreement. The first occurred in June 2003, which was during the second quarter of FY2004. In connection with the reacquisition of a franchise in Texas, Krispy Kreme increased the price that it paid for the franchise by $800,000 (i.e., from $65,000,000 to $65,800,000) in return for the franchisee purchasing from Krispy Kreme certain doughnut-making equipment. On the day of the closing, Krispy Kreme debited the franchise's bank account for $744,000, which was the aggregate list price of the equipment. The additional revenue boosted Krispy Kreme's quarterly net income by approximately $365,000 after taxes. The second transaction occurred at the end of October 2003, four days from the closing of Krispy Kreme's third quarter of FY2004, in connection with the reacquisition of a franchise in Michigan. Krispy Kreme agreed to increase the price that it paid for the franchise by $535,463, and it recorded the transaction on its books and records as if it had been reimbursed for two amounts that had been in dispute with the Michigan franchisee. This overstated Krispy Kreme's net income in the third quarter by approximately $310,000 after taxes. The third transaction occurred in January 2004, in the fourth quarter of FY2004. It involved the reacquisition of the remaining interests in a franchise in California. Krispy Kreme owned a majority interest in the California franchise and, beginning in or about October 2003, initiated negotiations with the remaining interest holders for acquisition of their interests. During the negotiations, Krispy Kreme demanded payment of a "management fee" in consideration of Krispy Kreme's handling of the management duties since October 2003. Krispy Kreme proposed that the former franchise manager receive a distribution from his capital account, which he could then pay back to Krispy Kreme as a management fee. No adjustment would be made to the purchase price for his interest in the California franchise to reflect this distribution. As a result, the former franchise manager would receive the full value for his franchise interest, including his capital account, plus an additional amount, provided that he paid back that amount as the management fee. Krispy Kreme, acting through the California franchise, made a distribution to the former franchise manager in the amount of $597,415, which was immediately transferred back to Krispy Kreme as payment of the management fee. The company booked this fee, thereby overstating net income in the fourth quarter by approximately $361,000. Additional accounting irregularities were unearthed in testimony by a former sales manager at a Krispy Kreme outlet in Ohio, who said a regional manager ordered that retail store customers be sent double orders on the last Friday and Saturday of FY2004, explaining "that Krispy Kreme wanted to boost the sales for the fiscal year in order to meet Wall Street projections." The manager explained that the doughnuts would be returned for credit the following week—once FY2005 was under way. Apparently, it was common practice for Krispy Kreme to accelerate shipments at year-end to inflate revenues by stuffing the channels with extra product, a practice known as "channel stuffing." Some could argue that Krispy Kreme's auditors—PwC— should have noticed a pattern of large shipments at the end of the year with corresponding credits the following fiscal year during the course of their audit. Typical audit procedures would be to confirm with Krispy Kreme's customers their purchases. In addition, monthly variations analysis should have led someone to question the spike in doughnut shipments at the end of the fiscal year. However, PwC did not report such irregularities or modify its audit report. In May 2005, Krispy Kreme disclosed disappointing earnings for the first quarter of FY2005 and lowered its future earnings guidance. Subsequently, as a result of the transactions already described, as well as the discovery of other accounting errors, on January 4, 2005, Krispy Kreme announced that it would restate its financial statements for 2003 and 2004. The restatement reduced net income for those years by $2,420,000 and $8,524,000, respectively. In August 2005, a special committee of the company's board issued a report to the SEC following an internal investigation of the fraud at Krispy Kreme. The report states that every Krispy Kreme employee or franchisee who was interviewed "repeatedly and firmly" denied deliberately scheming to distort the company's earnings or being given orders to do so; yet, in carefully nuanced language, the Krispy Kreme investigators hinted at the possibility of a willful cooking of the books. "The number, nature, and timing of the accounting errors strongly suggest that they resulted from an intent to manage earnings," the report said. "Further, CEO Scott Livengood and COO John Tate failed to establish proper financial controls, and the company's earnings may have been manipulated to please Wall Street." The committee also criticized the company's board of directors, which it said was "overly deferential in its relationship with Livengood and failed to adequately oversee management decisions." Krispy Kreme materially misstated its earnings in its financial statements filed with the SEC between the fourth quarter of FY2003 and the fourth quarter of FY2004. In each of these quarters, Krispy Kreme falsely reported that it had achieved earnings equal to its EPS guidance plus 1 cent in the fourth quarter of FY2003 through the third quarter of FY2004 or, in the case of the fourth quarter of FY2004, earnings that met its EPS guidance. On March 4, 2009, the SEC reached agreement with three former top Krispy Kreme officials, including one-time chair, CEO, and president Scott Livengood. Livengood, former COO John Tate, and CFO Randy Casstevens all agreed to pay more than $783,000 for violating accounting laws and fraud in connection with their management of the company. Livengood was found in violation of fraud, reporting provisions, and false certification regulations. Tate was found in violation of fraud, reporting provisions, record keeping, and internal controls rules. Casstevens was found in violation of fraud, reporting provisions, record keeping, internal controls, and false certification rules. Livengood's settlement required him to pay about $542,000, which included $467,000 of what the SEC considered as the "disgorgement of ill-gotten gains and prejudgment interest" and $75,000 in civil penalties. Tate's settlement required him to return $96,549 and pay $50,000 in civil penalties, while Casstevens had to return $68,964 and pay $25,000 in civil penalties. Krispy Kreme itself was not required to pay a civil penalty because of its cooperation with the SEC in the case. SEC Charges against PricewaterhouseCoopers 1 In a lawsuit brought on behalf of the Eastside Investors group against Krispy Kreme Doughnuts, Inc., members of management, and PricewaterhouseCoopers, a variety of the fraud charges leveled against the company were extended to the alleged deficient audit by PwC. These charges were settled and reflect the following findings. PwC provided independent audit services and rendered audit opinions on Krispy Kreme's FY2003 and FY2004 financial statements. The firm also provided significant consulting, tax, and due diligence services. Of the total fees received during this period, 66 percent (FY2003) and 61 percent (FY2004) were for nonaudit services. The lawsuit alleged that PwC was highly motivated not to allow any auditing disagreements with Krispy Kreme management to interfere with its nonaudit services. PwC was charged with a variety of failures in conducting its audit of Krispy Kreme. These include: (1) failure to obtain relevant evidential matter whether it appears to corroborate or contradict the assertions in the financial statements; (2) failure to act on violations of GAAP rules with respect to accounting for franchise rights and the company's relationship with its franchisees; and (3) ignoring numerous red flags that indicated risks that should have been factored into the audit and in questioning of management. These include: Unusually rapid growth, especially compared to other companies in the industry; Excessive concern by management to maintain or increase earnings and share prices; Domination of management by a single person or small group without compensating controls such as effective oversight by the board of directors or audit committee; Unduly aggressive financial targets and expectations for operating personnel set by management; and Significant related-party transactions not in the ordinary course of business or with related entities not audited or audited by another firm. The legal action against PwC referenced Rule 10b-5 of the Securities Exchange Act of 1934 in charging the firm with making untrue statements of material fact and failing to state material facts necessary to make Krispy Kreme's financial statements not misleading. The company wound up restating its statements for the FY2003 through FY2004 period. ___________________ * Unless otherwise indicated, the facts of this case are taken from Securities and Exchange Commission, Accounting and Auditing Enforcement Release No. 2941, In the Matter of Krispy Kreme Doughnuts, Inc., March 4, 2009, Available at:https://www.sec.gov/litigation/admin/2009/34-59499.pdf. 1 Material in this section was taken from United States District Court Middle District North Carolina, No. 1:04-CV-00416, In re Eastside Investors v. Krispy Kreme Doughnuts, Inc., Randy S. Casstevens, Scott A. Livengood, Michael C. Phalen, John Tate, and PricewaterhouseCoopers, LLP, 2005, Available at: http://securities.stanford.edu/filings-documents/1030/KKD04-01/2005215_r01c_04416.pdf. The failure to notice large shipments at year end and the subsequent issue of large credits is probably a failure of not employing what? Substantive procedures B. Analytic procedures Year-end cutoff Management letter

B. Analytic procedures

17. George has been asked by his audit client to provide income tax services including tax planning. Prior to providing such services, George should be certain that: A. He first completes the audit B. He assesses threats to independence C. The CEO pre-approves the performance of such services D. The board of directors is informed about such services

B. He assesses threats to independence

In Grant Thornton v. Prospect High Income Fund, Grant used each of the following points to defend itself against legal liability except:

C. There was no evidence of the loss suffered by the plaintiffs

The Securities Act of 1933:

C.Regulates the initial offering of securities

The Rosenblum case ruling was of concern to the accounting profession because it implied that

D. All possible third party users of financial statements must be anticipated

12. What argument can be made that SOX may not be effective in reducing fraud? It is not as stringent as international standards The SEC has many laws for many years that have not seemed to make much of a difference The penalties under Sarbanes-Oxley are especially stringent, so it may not be enforced D. Civil and criminal penalties are not effective in preventing financial fraud

D. Civil and criminal penalties are not effective in preventing financial fraud

Which of the following is NOT a cultural factor identified in Gray's Model? Professionalism Flexibility Conservatism Secrecy

Flexibility

The difference between errors in the financial statements as compared to fraud is:

Fraud is always an intentional act designed to deceive another party

The primary accounting issue in the Wetherford International case is:

Fraudulent inflation of earnings using deceptive income tax accounting

Which of the following is not a consideration in determining a measure of materiality?

Importance of audit committee in the organization

The FCPA requires all SEC registrants to have each of the following except: Maintain internal accounting controls Ensure all transactions are authorized by management and recorded properly Maintain information systems that prevent fraudulent activities that violate the FCPA Maintain adequate books and records to fairly reflect an issuer's transactions and disposition of assets

Maintain information systems that prevent fraudulent activities that violate the FCPA

How long do management and the audit committee have to act if the independent auditor reports possible illegal acts to them? One week One month Three business days One business day

One business day

Under the rules of the Sarbanes-Oxley Act of 2002 (SOX), who must certify the public reports filed with the SEC? The independent auditor The CEO and the independent auditor The CEO and CFO The CFO and the board of directors

The CEO and CFO

Under the Securities Act of 1933, if damages were incurred and there was a material misstatement or omission in the financial statements, the CPA will most likely lose the lawsuit unless: The management intentionally deceived the auditors The damages were incurred to a third party that was not a signatory to the contract The CPA can shift the burden of proof to the investors The CPA rebuts the allegations

The CPA rebuts the allegations

Which of the following would normally be considered sufficient to demonstrate due care on the part of the auditor? The auditor had its work reviewed by another audit firm The auditor cites adherence to generally accepted auditing standards (GAAS) No omissions or misstatements have been found in the client's financial statements The auditor signs a statement expressing its unmodified opinion as to the fairness of the financial statements

The auditor cites adherence to generally accepted auditing standards (GAAS)

PCAOB inspections of U.S. audit firms operating in China creates challenges because: China requires the PCAOB to come to China to do their inspections The SEC has to work through the China Securities Regulatory Commission to facilitate inspections of U.S. audit firms operating in China China refuses to cooperate on any level with the SEC The SEC requires that U.S. audit firms operating in China transmit all work papers to the U.S. audit firm's headquarters before an inspection can take place

The SEC has to work through the China Securities Regulatory Commission to facilitate inspections of U.S. audit firms operating in China

Under which of the following set of circumstances might the auditors disclaim an opinion?

The auditor is unable to obtain sufficient appropriate audit evidence on which to base the opinion

Under the Private Securities Litigation Reform Act (PSLRA), if an auditor concludes that an illegal act with a material effect on the financial statements has been reported to, but not dealt with by senior management, the auditor should next report his/her conclusions to: The Securities and Exchange Commission The company's board of directors The office of the controller/comptroller for the appropriate state The Federal Bureau of Investigation

The company's board of directors

15. Required Information Refer to Question 13. Halliburton provided a flow chart on revenue recognition known as the ______________. A. Channel Stuffing Tree B. Bill-and-Hold Decision Tree C. Mark-to-Market Tree D. Revenue Allocation Tree

B. Bill-and-Hold Decision Tree

7. Natalie got the call she had been waiting for over six long months. Her complaint to the human resources department of Franklin Industries had been dismissed. It was HR's conclusion that she was not retaliated against for reporting an alleged embezzlement by the Accounting Department manager. In fact, HR ruled there was no embezzlement at all. Natalie had been demoted from assistant manager of the department to staff supervisor seven months ago after informing Stuart Masters, the controller, earlier in 2018 about the embezzlement. Her blood started to boil as she thought about all the pain and agony these past six months without any level of satisfaction for her troubles. Natalie Garson is a CPA who works for Franklin Industries, a publicly-owned company and manufacturer of trusses and other structural components for home builders throughout the U.S. Six months ago she filed a complaint with HR after discussing a sensitive matter with her best friend and co-worker, Roger Harris. Natalie trusted Harris, who had six years' experience at Franklin. The essence of the discussion was that Natalie was informed by the accounting staff of what appeared to be unusual transactions between Denny King, the department manager, and an outside company no one had ever heard of before. The staff had uncovered over $5 million payments, authorized by King, to Vic Construction. No one could find any documentation about Vic so the staff dug deeper and discovered that the owner of Vic Construction was Victoria King. Further examination determined that Victoria King and Denny King were sisters. Once Natalie was convinced there was more to it than meets the eye, she informed the internal auditors who investigated and found that Vic Construction made a $5 million electronic transfer to a separate business owned by Denny King. One thing lead to another and it was determined by the internal auditors that King had funneled $5 million to Vic construction, which, at a later date, transferred the money back to King. It was a $5 million embezzlement from Franklin Industries. Natalie met with Roger Harris that night and told him about the HR decision that went against her. She was concerned whether the internal auditors would act now in light of that decision. She knew the culture at Franklin was "don't rock the boat." That didn't matter to her. She was always true to her values and not afraid to act when a wrongdoing had occurred. She felt particularly motivated in this case - it was personal. She felt the need to be vindicated. She hoped Roger would be supportive. As it turned out, Roger cautioned Natalie about taking the matter any further. He had worked for Franklin a lot longer than Natalie and knew the board of directors consisted mostly of insider directors. The CEO of Franklin was also the chair of the board. It was well known in the company that whatever the CEO wanted to do, the board rubber-stamped it. Natalie left the meeting with Roger wondering whether she was on her own. She knew she had to act but didn't know the best way to go about it. Even though Roger cautioned against going to the CEO or board, Natalie didn't dismiss that option. Assume you are in Natalie's position. Answer the following questions. If Natalie Garson assumes someone else will report the apparent authorized transfer to Vic Construction, she would be subject to _____________. A. The whistleblower effect B. The tone at the top effect C. The bystander effect D. The Sherron Watkins effect, named for the whistleblower at Enron

C. The bystander effect

13. Required information Skip to question [The following information applies to the questions displayed below.] In 2005, Tony Menendez, a former Ernst & Young LLP auditor and director of technical accounting and research training for Halliburton, blew the whistle on Halliburton's accounting practices. The fight cost him nine years of his life. Just a few months later in 2005, Menendez received an email from Mark McCollum, Halliburton's chief accounting officer, and a top-ranking executive at Halliburton, that also went to much of the accounting department. "The SEC has opened an inquiry into the allegations of Mr. Menendez," it read. Everyone was to retain their documents until further notice. What happened next changed the life of Menendez and brought into question how such a large and influential company could have such a failed corporate governance system. Further, the role of the auditors, KPMG, with respect to its handling of accounting and auditing matters, seemed off, and independence was an issue. Exhibit 1 summarizes some of the relevant accounting and auditing issues in the case. Nature of Halliburton's Revenue Transactions in Question During the months following the "leaked" email, Menendez waited and watched to see if Halliburton would act on his claims that the company was cooking the books. The issue was revenue recognition as discussed below. Halliburton enters into long-term contracts with energy giants like Royal Dutch Shell or BP to find and exploit huge oil and gas fields. It sells services - the expertise of its geologists and engineers. Halliburton also builds massive and expensive machinery that its professionals use to provide those services. Then, the company charges its customers for that equipment, which has particularly high profit margins. The company's accountants had been allowing the company to count the full value of the equipment right away as revenue, sometimes even before it had assembled the equipment. But the customers could walk away in the middle of the contracts. Menendez realized that if the equipment were damaged, Halliburton, not the customer, was on the hook. Menendez accused Halliburton of using so-called bill-and-hold techniques that distort the timing of billions of dollars in revenue and allowed Halliburton to book product sales before they occurred. Menendez explained Halliburton's accounting this way. "For example, the company recognizes revenue when the goods are parked in company warehouses, rather than delivered to the customer. Typically, these goods are not even assembled and ready for the customer. Furthermore, it is unknown as to when the goods will be ultimately assembled, tested, delivered to the customer and, finally, used by the company to perform the required oilfield services for the customer.'" Based on Menendez's claims, Halliburton's accounting procedures violated generally accepted accounting principles. For companies to recognize revenue before delivery, "the risks of ownership must have passed to the buyer,'" the SEC's staff wrote in a 2003 accounting bulletin. There also "must be a fixed schedule for delivery of the goods," and the product "must be complete and ready for shipment," among other things. Shortly after joining Halliburton in March 2005, Menendez said he discovered a "terribly flawed'' flow chart on the company's in-house Web site, called the Bill and Hold Decision Tree. The flow chart, a copy of which Menendez included in his complaint, walks through what to do in a situation where a "customer has been billed for completed inventory which is being stored at a Halliburton facility." First, it asks: Based on the contract terms, "has title passed to customer?'' If the answer is no -- and here's where it gets strange -- the employee is asked: "Does the transaction meet all of the 'bill and hold' criteria for revenue recognition?'' If the answer to that question is yes, the decision tree says to do this: "Recognize revenue." The decision tree didn't specify what the other criteria were. In other words, Halliburton told employees to recognize revenue even though the company still owned the product. Ironically, the accelerated revenue for financial statement purposes led to higher income taxes paid to the IRS. "The policy in the chart is clearly at odds with generally accepted accounting principles," said Charles Mulford, a Georgia Institute of Technology accounting professor, who reviewed the court records. "It's very clear cut. It's not gray." According to the accounting rules, it is possible to use bill-and-hold and comply with the rules. But it's hard. The customer, not the seller, must request such treatment. The customer also must have a compelling reason for doing so. Customers rarely do. Top Halliburton accounting executives had agreed with Menendez's analysis, including McCollum, the company's chief accounting officer. But according to Menendez, they dragged their feet on implementing a change that was certain to slow revenue growth. In an email response to detailed questions, a Halliburton spokeswoman wrote, "The accounting allegations were made by Mr. Menendez almost nine years ago and were promptly reviewed by the company and the Securities and Exchange Commission. The company's accounting was appropriate and the SEC closed its investigation." This seems curious when we examine the SEC's own rules for recognition. Hocus Pocus Accounting- Bill-and-Hold Schemes The proper accounting for Halliburton's bill-and-hold transactions was not lost on its external auditors, KPMG. In fact, in early 2005, KPMG published an article entitled: Bill and Hold Transactions in the Oilfield Services Industry, which made it clear that oilfield services companies had to comply with all four of SEC Staff Accounting Bulletin (SAB 101) to recognize revenue early. These include: Persuasive evidence of an arrangement exists Delivery has occurred or services have been rendered The seller's price to the buyer is fixed or determinable, and Collectibility is reasonably assured. KPMG went on to recognize that it would be rare for an oilfield service company to actually meet the necessary criteria. The impact to Halliburton was highlighted by KPMG's recognition that bill and hold transactions for oilfield service companies were "common" and "involve very large and complex products and equipment that carry significant amounts of economic value." KPMG went on to state that "perhaps no area of revenue recognition has received as much scrutiny as bill-and-hold." Menendez's Complaint to the DOL Menendez's allegations are part of a 54-page complaint he filed against Halliburton with a Department of Labor (DOL) administrative-law judge in Covington, Louisiana, who released the records to Menendez in response to a Freedom of Information Act request. Menendez claimed Halliburton retaliated against him in violation of the Sarbanes-Oxley Act's whistleblower provisions after he reported his concerns to the SEC and the company's audit committee. According to a company spokesperson, Halliburton's audit committee "directed an independent investigation" and "concluded that the allegations were without merit." She declined to comment on bill-and-hold issues, and Halliburton's court filings in the case don't provide any details about its accounting practices. Menendez filed his complaint shortly after a DOL investigator in Dallas rejected his retaliation claim. His initial claim was rejected by the court and subsequently appealed after many years, and the decision was ultimately overturned but not until after he and his family had endured a nine-year ordeal during which time he was an outcast at Halliburton. The Final Verdict is in: Accountant takes on Halliburton and Wins! The appeals process went on for three years. In September 2011, the administrative law appeals panel ruled. It overturned the original trial judge. After five years, Menendez had his first victory. But it wasn't over. Halliburton appealed to the Fifth Circuit Court of Appeals. There were more legal filings, more hours of work, more money spent. Finally, in November of 2014, almost nine years after Menendez received "The Email," he prevailed. The appeals panel ruled that he indeed had been retaliated against for blowing the whistle, just as he had argued all along. Because he had wanted only to be proven right, he'd asked for a token sum. The administrative law panel, noting the importance of punishing retaliations against whistleblowers, pushed for an increase and Menendez was awarded $30,000. To say that the outcome stunned experts is something of an understatement. "Accountant beats Halliburton!'' said Thomas, the attorney and expert on whistleblower law. "The government tries to beat Halliburton and loses." Post-Decision Interview about Whistleblowing In an interview with a reporter, Menendez offered that Halliburton had a whistleblower policy prior to this incident as required under Sarbanes-Oxley. It was required to be confidential and Halliburton's policy promised confidentiality while at the same time discouraging anonymous complaints on the basis that if you didn't provide your identity they may not be able to properly investigate your concern. Menendez added that it was absolutely central to my case and I relied on this policy but it was Halliburton that blatantly ignored its own policy and betrayed my trust. He was asked how the whistleblowing policy of the SEC might be improved. He said that all too often it is almost impossible for a whistleblower to prevail and that there needs to be more protections and a more balanced playing field. "It shouldn't take nine years and hundreds of thousands of dollars to even have a remote chance of prevailing." The Human Aspect of the Case Menendez felt he had to leave Halliburton because of the retaliation and how everyone treated him differently after the email. During the appeals process, as Menendez and his wife waited for vindication and money got tight, Menendez finally caught a break. Through the accounting experts he had met during his legal odyssey, he heard that General Motors was looking for a senior executive. He agonized over whether to tell interviewers about his showdown with Halliburton. Ultimately, he figured they would probably find out anyway. When he flew up to Detroit and met with Nick Cypress, GM's chief accounting officer and comptroller, he came clean. Cypress had heard good things about Menendez from Doug Carmichael, the accounting expert who had been Menendez's expert witness at trial. After telling him, he asked Cypress, "Does this bother you? "Hell no!" the GM executive replied. This was not the typical reaction top corporate officers have to whistleblowers. The interviewer asked Cypress about it: "I was moved by it," he explained. "It takes a lot of courage to stand tall like that and I needed that in the work we were doing. I needed people with high integrity who would work hard who I could trust" to bring problems directly to senior management. Today, Menendez still works at GM. His job is overseeing how GM recognizes about $100 billion worth of revenue, the very issue underlying his struggle with Halliburton. In the meantime, Halliburton has thrived. The SEC never levied any penalty for the accounting issue raised by Menendez. In 2014, the company generated $3.5 billion in profit on $33 billion in revenue. It's not possible to tell if the company maintains the same revenue recognition policy from its public filings, says Mulford. But since the SEC passed on an enforcement action on the issue, the company likely feels it is in accordance with accounting rules. (Mulford believes that Menendez was right back then and that the SEC should have looked harder at the issue initially.) Many of the Halliburton and KPMG officials involved in the accounting issue or the retaliation have continued to prosper in the corporate ranks. One is now Halliburton's chief accounting officer. McCollum is now the company's executive vice president overseeing the integration of a major merger. The KPMG executive who disagreed with Menendez is now a partner at the accounting firm. Menendez did not tell his friends and family of his legal victory. He's more cautious than he used to be. "I changed a lot. It was almost 10 years where everything was in question. Wondering what would people think of you." He and his wife still worry that disaster could arrive in the next email. "It can really weaken a soul and tear apart a family or a marriage, if you aren't careful. Because of the enormous powers of a company," said his wife. If people asked her advice, "I'd probably say don't do it." Recently, Menendez finally explained the story to his son, Cameron, who is now 13 and old enough to understand. Cameron's response: "You should have asked for more money, Dad," the teenager said. "We could use it." Years ago, Menendez and his wife bought a bottle of champagne to celebrate his eventual victory. They still haven't opened it. EXHIBIT 1 Issues Related to the Sarbanes-Oxley Act, SEC, and KPMG Menendez contacted the audit committee because he believed it was in the best interest of the employees and shareholders if he made himself available to the committee in their efforts to investigate the questionable accounting and auditing practices and properly respond to the SEC. It was discovered that Halliburton did not have in place, as required by Section 301 of SOX, a process for "(1) the receipt and treatment of complaints received by the issuer regarding accounting, internal controls, or auditing matters; and (2) the confidential, anonymous submission of employees of the issuer of concerns regarding questionable accounting or auditing matters." After waiting for the company to take action to no avail, Menendez felt there was no alternative to blowing the whistle and on November 4, 2005, he contacted the SEC and PCAOB stating in part: "As a C.P.A. and the Director of Technical Accounting Research and Training for Halliburton, I feel it is my duty and obligation to report information that I believe constitutes both a potential failure by a registered public accounting firm, KPMG, to properly perform an audit and the potential filing of materially misleading financial information with the SEC by Halliburton." Two weeks later, at the agencies' request, he met with SEC enforcement staff at their Fort Worth office. On November 30, 2005, he• approached members of top management of Halliburton. On February 4, 2006, Menendez provided what he believed would be a confidential report to Halliburton's audit committee, giving the company yet another opportunity for self-examination. However, on the morning of February 6, 2006, Menendez's identity was disclosed to McCollum and less than an hour after finding out that Menendez had reported the questionable accounting and auditing practices to the SEC, McCollum distributed information about Menendez's investigation and identity. The disclosure was followed by a series of retaliatory actions. Halliburton management stripped Menendez of teaching and researching responsibilities, ordered subordinates to monitor and report on his activity, excluded him from meetings and accounting decisions, and ordered financial and accounting personnel to pre-clear any conversations about accounting issues before discussing them with Menendez. In May 2005, Menendez filed a civil whistleblower complaint under SOX. In July 2006, Halliburton told the Department of Labor handing the case that KPMG had insisted that Menendez be excluded from a meeting concerning accounting for a potential joint venture arrangement called "RTA." Halliburton indicated it acceded to KPMG's demand and excluded Menendez from the meeting. SOX prohibits an employer from discriminating against an employee, contractor, or agent and prohibiting such party from engaging in activity protected under the Act, and the SEC stated that the assertion by the company that KPMG's presence was mandatory was misleading. In fact, the SEC opined that KPMG's presence was not even advisable since KPMG was supposed to be an independent auditor in both appearance and in fact. The RTA meeting was scheduled to determine whether or not Halliburton would be required to consolidate the proposed joint venture. Senior management explicitly stated that the division management would not receive approval to proceed unless Halliburton could both avoid consolidation and maintain control over the joint venture activities. Earlier in the development of the accounting position regarding this joint venture, KPMG told management that they would allow the company to avoid consolidation and FIN 46R's Anti-Abuse criteria on the basis that the determination required professional judgment, and indicated that they would be willing to support a conclusion that Halliburton was not significantly involved in the joint venture activities, when clearly the facts and circumstances did not support such a conclusion. Menendez had vehemently objected to KPMG and management's proposed conclusion on the basis that such a position was absurd. According to the SEC, given KPMG's previous guidance to the company regarding RTA, and their willingness to accommodate unsupportable conclusions, continued input by KPMG on RTA was inappropriate and, once again, put KPMG in the position of auditing its own recommendations and advice. In the end, the concerted failures of management and the external auditor underscored the lack of independence between company and KPMG which is a root cause of the accounting violations Menendez fought to correct and, at last, had to report. Halliburton was violating revenue recognition rules by recognizing revenue _____________. A. Before assembling the product B. Before delivering the product C. Before the risks of ownership had passed to the buyer D. All of these are correct.

D. All of these are correct.

19. The ethical dilemma for Hailey in "Taxes and the Cannabis Business" case can best be described as a: A. Conflict between reporting cash sales and ignoring them B. Conflict between reporting expenses and ignoring it C. Lack of independence due to ties to the client entity D. Lack of due care in not spotting improper tax accounting

A. Conflict between reporting cash sales and ignoring them

8. Natalie got the call she had been waiting for over six long months. Her complaint to the human resources department of Franklin Industries had been dismissed. It was HR's conclusion that she was not retaliated against for reporting an alleged embezzlement by the Accounting Department manager. In fact, HR ruled there was no embezzlement at all. Natalie had been demoted from assistant manager of the department to staff supervisor seven months ago after informing Stuart Masters, the controller, earlier in 2018 about the embezzlement. Her blood started to boil as she thought about all the pain and agony these past six months without any level of satisfaction for her troubles. Natalie Garson is a CPA who works for Franklin Industries, a publicly-owned company and manufacturer of trusses and other structural components for home builders throughout the U.S. Six months ago she filed a complaint with HR after discussing a sensitive matter with her best friend and co-worker, Roger Harris. Natalie trusted Harris, who had six years' experience at Franklin. The essence of the discussion was that Natalie was informed by the accounting staff of what appeared to be unusual transactions between Denny King, the department manager, and an outside company no one had ever heard of before. The staff had uncovered over $5 million payments, authorized by King, to Vic Construction. No one could find any documentation about Vic so the staff dug deeper and discovered that the owner of Vic Construction was Victoria King. Further examination determined that Victoria King and Denny King were sisters. Once Natalie was convinced there was more to it than meets the eye, she informed the internal auditors who investigated and found that Vic Construction made a $5 million electronic transfer to a separate business owned by Denny King. One thing lead to another and it was determined by the internal auditors that King had funneled $5 million to Vic construction, which, at a later date, transferred the money back to King. It was a $5 million embezzlement from Franklin Industries. Natalie met with Roger Harris that night and told him about the HR decision that went against her. She was concerned whether the internal auditors would act now in light of that decision. She knew the culture at Franklin was "don't rock the boat." That didn't matter to her. She was always true to her values and not afraid to act when a wrongdoing had occurred. She felt particularly motivated in this case - it was personal. She felt the need to be vindicated. She hoped Roger would be supportive. As it turned out, Roger cautioned Natalie about taking the matter any further. He had worked for Franklin a lot longer than Natalie and knew the board of directors consisted mostly of insider directors. The CEO of Franklin was also the chair of the board. It was well known in the company that whatever the CEO wanted to do, the board rubber-stamped it. Natalie left the meeting with Roger wondering whether she was on her own. She knew she had to act but didn't know the best way to go about it. Even though Roger cautioned against going to the CEO or board, Natalie didn't dismiss that option. Assume you are in Natalie's position. Answer the following questions. In deciding what to do next, Natalie as a CPA should consider the ____________. A. Ethical Responsibilities of a CPA Professional Code of Conduct 102-4 B. Ethical Responsibilities of a CPA under AICPA Professional Code Conduct 201-1 C. Ethical Responsibilities of a CPA Professional Code of Conduct 203 D. Ethical Responsibilities of a CPA Professional Code of Conduct 301

A. Ethical Responsibilities of a CPA Professional Code of Conduct 102-4

10. Role expectation or approval from others is a motive for doing right in which stage of Kohlberg's moral reasoning? A. Fairness to others B. Obedience C. Social contract D. Law and order

A. Fairness to others

13. Cognitive dissonance creates a problem that can be described as: A. Inconsistency between thoughts and beliefs and our intended actions B. Consistency between thoughts and beliefs and our intended actions C. Reducing the importance of the beliefs and attitudes on our actions D. Acquiring new information that outweighs the dissonant beliefs

A. Inconsistency between thoughts and beliefs and our intended actions

17. Cognitive dissonance creates a problem that can be described as: A. Inconsistency between thoughts and beliefs and our intended actions B. Consistency between thoughts and beliefs and our intended actions C. Reducing the importance of the beliefs and attitudes on our actions D. Acquiring new information that outweighs the dissonant beliefs

A. Inconsistency between thoughts and beliefs and our intended actions

9. Deontology deals with: A. Rights of others and duties toward them B. Consequences of actions C. Following prescribed virtue characteristics D. Following the law as an element of ethical behavior

A. Rights of others and duties toward them

12. Required Information Refer to Question 10. A tobashi scheme involves which of the following? A. Selling investments and buying them back disguised as advisory fees B. Using special purpose entities (SPEs), a la Enron, to offload losses to another entity C. Issuing high yield debt via junk bonds to obtain funds to cover the losses D. Creating numerous new divisions that accept the underwater securities, and then selling them to nonexistent entities

A. Selling investments and buying them back disguised as advisory fees

4. The Public Interest Principle in the AICPA Code of Professional Conduct recognizes: A. The importance of integrity in decision making B. The importance of loyalty to one's superior C. The importance of whistleblowing when financial wrongdoing exists D. The importance of maintaining the confidentiality

A. The importance of integrity in decision making

8. The method of ethical reasoning that evaluates actions in terms of harms and benefits is: A. Act Utilitarianism B. Rights Theory C. Justice D. Virtue

A. Act Utilitarianism

15. The ethical domain in accounting and auditing refers to: A. The important constituent groups affected by accounting and auditing work B. The stages of the moral development of accountants and auditors C. The decision making process followed by accountants and auditors D. The rules of conduct in the AICPA Code of Professional Conduct

A. The important constituent groups affected by accounting and auditing work

3. The ethical domain in accounting and auditing refers to: A. The important constituent groups affected by accounting and auditing work B. The stages of the moral development of accountants and auditors C. The decision making process followed by accountants and auditors D. The rules of conduct in the AICPA Code of Professional Conduct

A. The important constituent groups affected by accounting and auditing work

13. The cognitive development approach refers to: A. The thought process followed in one's moral development B. The method of moral reasoning used in decision making C. The exercise of professional judgment in decision making D. The approach to giving voice to one's values

A. The thought process followed in one's moral development

6. A CPA would violate the Due Care Principle if he/she: A. Undertook a professional engagement without having the requisite background, knowledge, and experience. B. Specializes in the industry of the client, even offering training classes for other accounting firms on the industry. C. The accounting firm uses two external partner reviews on high-risk audits or clients. D. Performs tax services for an audit client with audit committee approval.

A. Undertook a professional engagement without having the requisite background, knowledge and experience.

7. What is an important part in making an ethical choice, according to Kidder? A. Knowledge B. Loyalty C. Courage D. Trustworthiness

C. Courage

7. Aristotle believed that __________ always preceded the choice of action. A. Empathy B. Due Care C. Deliberation D. Loyalty

C. Deliberation

18. A difficult choice between two moral principles that are in conflict with one another is known as a/an: A. ethical relativism B. situational ethics C. ethical dilemma D. conflict ethics

C. ethical dilemma

18. In the ZZZZ best case, Barry Minkow was charged with: A fraudulent insurance restoration scam Insider trading on Lennar stock Stealing from a San Diego church Overcharging a LA housewife for carpet cleaning services

A. A fraudulent insurance restoration scam

The key element that protects an auditor against common law liability is:

A. Adherence to generally accepted auditing standards (GAAS)

The legal precedent that evolves from legal opinions issued by judges in deciding a case and guides judges in deciding similar cases in the future is referred to as:

A. Common Law

The accounting issue(s) in the Crazy Eddie case were:

A. Inflating inventory and net income

12. Steve is deep in debt due to a gambling problem. He is the bookkeeper for a family-owned business, Cal Poly Greenery. The company has only three employees - Steve, the husband, and the wife. All three have been friends for many years. One day the loan shark who lent Steve $20,000 comes knocking at his door asking for repayment of the loan. Steve convinces the loan shark to give him another day. The following day Steve writes a check on the company's books to himself for $20,000. Since he reconciles the bank accounts and prepares the financial statements, Steve knows it's unlikely the owners will ever know about what he has done. From an ethical perspective, Steve has: Multiple Choice A. Violated the trust placed in him by the owners B. Risked his reputation if the loan shark finds out C. Risked his ability to continue working for Cal Poly Greenery D. All of the above

A. Violated the trust placed in him by the owners

18. The "Milton Manufacturing" case illustrates: A. What can go wrong when a company sets a policy that potentially harms one area of its operations. B. How the failure to exercise professional skepticism can cloud objective judgment. C. The pressure that can be placed on accountants by top management. D. What can go wrong when fraudulent accounting is dictated by top management.

A. What can go wrong when a company sets a policy that potentially harms one area of its operations.

Which of the following is NOT one of the four stages in an audit-related dispute? Events arise that create losses for the users of the financial statements Losses are linked to material misstatements of financial statements Legal process resolves the dispute Auditors legal liability leads to financial settlement

Auditors legal liability leads to financial settlement

20. The key element that protects an auditor against common law liability is: Adherence to generally accepted accounting principles (GAAP) B. Adherence to generally accepted auditing standards (GAAS) Compliance with threats and safeguards approach Maintain confidentiality of client information

B. Adherence to generally accepted auditing standards (GAAS)

18. The ethical conflict Alex is facing in the FDA Liability Concerns can be best characterized as: A. Alex and Michael can't convince Gregory of the extent of the problem caused by the listeria identified by the FDA. B. Alex wants to do the right thing by consumers of his salad oil products but Michael objects based on his cost-benefit analysis. C. Alex and Michael want to make the plant seem as profitable as possible so the firm can do an IPO and cash out their shares but Gregory wants to inform the FDA of the extent of the listeria problem. D. Gregory and Michael are using cost-benefit analysis to pay fines and do the minimum for the FDA while Alex wants to comply fully.

B. Alex wants to do the right thing by consumers of his salad oil products but Michael objects based on his cost-benefit analysis.

5. An ethical corporate culture includes: A. Zero tolerance for individual and collective mistakes B. An explicit statement of values. C. A focus on results over process D. A culture of do what I say, not what I do

B. An explicit statement of values.

16. The SEC has increased focus on identifying and penalizing misstatements in public company financials. What is one method that the SEC is using to identify companies, CEOs, and CFOs that are misstating financial statements? A. Utilizing the whistleblower provisions of the Dodd-Frank Act to provide a hot line. B. Analyzing patterns of internal control problems even absent a restatement of the financials. C. Analyzing whether the CFO has implemented adequate internal controls and safeguards over the financial reporting function. D. Utilizing the company's ethics code to spot misstatements.

B. Analyzing patterns of internal control problems even absent a restatement of the financials.

7. Refer to question 5. Suppose Sarah meets with Paul on Monday and no resolution is obtained; Paul does not back off. To whom should Sarah turn next? Board of Directors B. Audit Committee External auditors SEC as a whistleblower

B. Audit Committee

2. Refer to Question 1. It appears Grace has fallen victim to which of the following? A. Judgment triggers B. Availability tendency C. Mindset tendency D. Groupthink tendency

B. Availability tendency

19. The ethical dilemma for Ricardo in the Juggyfroot case can best be described as: A. Whether to go along with Fred and Ethel's accounting for the loss in value on marketable securities. B. Whether to let his failure to object to inappropriate accounting in the prior year influence whether he goes along with inappropriate accounting in the current year. C. Whether to quit the firm because of the pressure placed on him by his boss to go along with inappropriate accounting. D. Whether to blow the whistle on the inappropriate accounting sanctioned by the firm.

B. Whether to let his failure to object to inappropriate accounting in the prior year influence whether he goes along with inappropriate accounting in the current year.

3. Refer to question 1. Steve is balancing the desire to sell the firm's product with the lack of independence in appearance, which may be a result of being the auditor AND advisor in the software decision. Perhaps Steve should consider The Ethical Leadership Scales. This measures personal ethical ______________. competence, leadership, and values B. competence, leadership, and organization duties, leadership, and values duties, leadership, and organization

B. competence, leadership, and organization

3. What are the five elements of the framework for understanding ethical decision making in business? A. Ethical issue sensitivity; individual factors; organizational factors; opportunity; and business ethics intentions and evaluations. B. Individual factors; organizational factors; opportunity; moral character; and business ethics intentions, behavior, and evaluations. C. Ethical issue intensity; individual factors; organizational factors; opportunity; and business ethics intentions, behavior, and evaluations. D. Organizational factors; opportunity; moral judgment; individual values; and business ethics intentions, behavior, and evaluations.

C. Ethical issue intensity; individual factors; organizational factors; opportunity; and business ethics intentions, behavior, and evaluations.

6. In the Pinto case, Ford relied on which approaches to ethical reasoning to decide on a course of action with respect to the faulty gas tank placement: A. Egoism and utilitarianism B. Enlightened egoism and rights theory C. Ethical legalism and utilitarianism D. Justice and rights theory

C. Ethical legalism and utilitarianism

21. The first step for an auditor who concludes an illegal act exists is to: A. Bring the matter to the attention of the audit committee B. Bring the matter to the attention of the SEC C. Assess the impact of the illegal act on the financial statements D. Assess the impact of the illegal act on the auditor's opinion

C. Assess the impact of the illegal act on the financial statements

3. Responsibility goes hand in hand with: A. Respect B. Loyalty C. Courage D. Accountability

D. Accountability

14. The ethical dilemma that faces Ronnie Maloney is best described as: Whether the loan loss reserves of the bank were understated Whether to file a whistle-blower's complaint with the SEC under Dodd-Frank Whether to commit fraud to cover up stealing from the company Whether to properly inform the audit committee of critical audit matters

D. Whether to properly inform the audit committee of critical audit matters

13. [The following information applies to the questions displayed below.] Gloria Hernandez is the controller of a public company. She just completed a meeting with her superior, John Harrison, who is the CFO of the company. Harrison tried to convince Hernandez to go along with his proposal to combine 12 expenditures for repair and maintenance of a plant asset into one amount ($1 million). Each of the expenditures is less than $100,000, the cutoff point for capitalizing expenditures as an asset and depreciating it over the useful life. Hernandez asked for time to think about the matter. As the controller and chief accounting officer of the company, Hernandez knows it's her responsibility to decide how to record the expenditures. She knows that the $1 million amount is material to earnings and the rules in accounting require expensing of each individual item, not capitalization. However, she is under a great deal of pressure to go along with capitalization to boost earnings and meet financial analysts' earnings expectations, and provide for a bonus to top management including herself. Her job may be at stake, and she doesn't want to disappoint her boss. Assume both Hernandez and Harrison hold the CPA and CMA designations. The question of whether to capitalize or expense in this situation most closely parallels the case involving which company? A. Enron B. Tyco C. ZZZZ Best D. WorldCom

D. WorldCom

In establishing that the third party relied on the financial statements, one factor that works against plaintiffs' establishing such reliance is: Fraud did not exist Damages or loss suffered by the plaintiff would not have occurred regardless of whether the audited financial statements were misstated Damages or loss suffered by the plaintiff would have occurred regardless of whether the audited financial statements were misstated Negligence did not exist

Damages or loss suffered by the plaintiff would have occurred regardless of whether the audited financial statements were misstated

One feature of a corporate governance system commonly found outside the U.S. is: Unitary board of directors Dual system of boards of directors No board of directors Acceptance of facilitating payments and bribery

Dual system of boards of directors

The best explanation why the fraud at Tyco was not discovered and acted on is:

Failure of the corporate governance system

Which of the following is not an element of COSO Enterprise Risk Management?

Improving deployment of information technology

Section 302 of the Sarbanes-Oxley Act requires:

Management's certification of the financial statements

The legal liability of the auditors in the Autonomy case can best be described as resulting from: Liability for gross negligence that constituted fraud No liability because the firms were not sued by Autonomy Liability for failing to inform creditors of a nonexistent bank account carried on Autonomy's books Improper accounting for a merger transaction between Hewlett-Packard and Autonomy

No liability because the firms were not sued by Autonomy

Which of the following is NOT a valid defense to legal liability under the Securities Act of 1933? Materiality defense Non-negligence defense Due diligence defense Lack of causation defense

Non-negligence defense [(1) the materiality defense; (2) the due diligence defense; (3) the knowledge of falsehood defense; or (4) the lack of causation defense]

A privity relationship means that: A party may be a user of the financial statements A party may sue if fraud has taken place A party's financial liability is limited A party has a contractual obligation

limited A party has a contractual obligation

The term "true and fair view" tends to be a replacement for _________ used in the U.S. Full and fair Present fairly Representational faithfulness Economic substance

Present fairly

The Securities Act of 1933: Regulates the auditing of financial statements for publicly-traded companies Limits the financial liability of independent auditors except in the case of gross negligence Regulates the initial offering of securities Regulates which services may be performed for a publicly-traded company by an audit firm

Regulates the initial offering of securities

The primary issue in the Rooster, Hen, Footer and Burger case is:

Related party transactions

Principles-based standards differ from a rules-based approach because: Principles-based standards rely on bright-line concepts to apply accounting standards Rules-based standards rely on bright-line rules to apply accounting standards Principles-based standards set uniform goals for the application of accounting standards Rules-based standards form the basis of IFRS

Rules-based standards rely on bright-line rules to apply accounting standards

The ethical dilemma in the Getaway Cruise Lines case can best be described as: The external auditors are being blocked by the client in attempting to verify accounting treatment of surplus electricity and water provided by the client to the local government The Director of International Accounting questions the requirement to provide surplus electricity and water to the local government The external auditors question the requirement to make facilitating payments to the local authorities The Director of International Accounting questions the requirement to provide surplus electricity and water and make facilitating payments to the local authorities

The Director of International Accounting questions the requirement to provide surplus electricity and water and make facilitating payments to the local authorities

The Credit Alliance v. Arthur Andersen & Co. case established three tests that must be satisfied for holding auditors liable for negligence to third parties. All of the following are tests described except: Knowledge by the accountant that the financial statements are to be used for a particular purpose The intention of the third party to rely on those statements Some action by the accountant linking him or her to the third party that provides evidence of the accountant's understanding of intended reliance The identity of the third party must be directly known to the auditor

The identity of the third party must be directly known to the auditor

If the financial statements are not materially misstated for a nonpublic company, the auditor should give a(an):

Unmodified opinion

In Tenants Corp. v. Max Rothenberg, the auditors were held legally liable for: Ordinary negligence Gross negligence Deficient tax work Write-up work

Write-up work

Auditors are responsible to detect and correct errors when they are: a. Material b. Material or immaterial c. Due to an illegal act d. Management fails to correct for the error

a

16. What should be the first step in decision making when faced with an ethical dilemma? A. Choose an ethical theory to follow B. Discuss with others your options C. Get the facts surrounding the problem D. Determine consequences

C. Get the facts surrounding the problem

2. Jacob just joined the firm of Gordon & Towns LLC. Prior to beginning his first group audit assignment, Jacob asks to meet with his mentor, Isaac. He asks Isaac how making judgments in an audit team setting differs from running an audit oneself. What is the best advice for Isaac to give to Jacob? A. They are not the same B. Groups are not prone to judgment traps and biases C. Groups are prone to making quick decisions in order to avoid conflict D. Good judgment principles apply only in group settings since other are involved

C. Groups are prone to making quick decisions in order to avoid conflict

13. The Monsanto case centered around the: Acceleration of revenue due to channel stuffing arrangements Use of cookie jar reserves to manage earnings C. Improperly accounting for rebates Use of non-GAAP EPS

C. Improperly accounting for rebates

16. All of the following are ICFR-related audit deficiencies in PCAOB inspection reports except: Inadequate testing of management review controls Inadequate testing of the top-down risk-based approach C. Inadequate qualifications of auditors Inadequate identification of information technology risks

C. Inadequate qualifications of auditors

12. The framework of COSO's Enterprise Risk Management can best be characterized as: Incorporate enhanced internal control principles into enhanced corporate governance Incorporate enhanced audit sampling procedures in the testing of internal controls C. Incorporate enhanced corporate governance into internal control principles Incorporate enhanced audit sampling procedures in substantive testing

C. Incorporate enhanced corporate governance into internal control principles

8. The framework of COSO's Enterprise Risk Management can best be characterized as: Incorporate enhanced internal control principles into enhanced corporate governance Incorporate enhanced audit sampling procedures in the testing of internal controls Incorporate enhanced corporate governance into internal control principles Incorporate enhanced audit sampling procedures in substantive testing

C. Incorporate enhanced corporate governance into internal control principles

8. The framework of COSO's Enterprise Risk Management can best be characterized as: Multiple Choice Incorporate enhanced internal control principles into enhanced corporate governance Incorporate enhanced audit sampling procedures in the testing of internal controls C. Incorporate enhanced corporate governance into internal control principles Incorporate enhanced audit sampling procedures in substantive testing

C. Incorporate enhanced corporate governance into internal control principles

13. Ty is a rising star at Texas State Country & Western Stores. He is the controller of the company. His wife, Rosie, is the lead auditor of the CPA firm that examines Country & Western's financial statements and issues an audit opinion. Given the nature of the relationships, Rosie would violate what ethical standard if she is allowed to conduct the audit: A. Integrity B. Due care C. Independence D. Responsibility

C. Independence

2. Which of the following is not a component of the Framework for Understanding Ethical Decision Making in Business? A. Ethical issue intensity B. Individual and organizational factors C. Internal controls D. Business ethics intentions, behaviors, and evaluations

C. Internal controls

3. Confidential client information can be disclosed outside the entity without violating the AICPA Code of Professional Conduct in each of the following situations except when: It is reported to the SEC under Section 10A of the Securities Exchange Act It is to comply with the Private Securities Litigation Reform Act It protects the auditor's accounting for fraud and illegal acts It is allowed for under the Dodd-Frank Financial Reform Act

C. It protects the auditor's accounting for fraud and illegal acts

2. The case revolves around legislation in the Securities Act of 1934. The Securities Act of 1934 deals with which of the following? Disclosure of information in a registration statement for a new public offering Creation of the SEC C. It regulates ongoing reporting by public companies. Disclosure of information in a registration statement for a new public offering and it regulates ongoing reporting by public companies.

C. It regulates ongoing reporting by public companies.

15. Why don't auditors prepare financial statements, as well as audit them? A. It would take away a job from the controller of the company B. It would not eliminate errors in the financial statements C. It would be a conflict of interest and violate ethical standards D. It would not streamline the process and be effective

C. It would be a conflict of interest and violate ethical standards

16. Which of the following statements best reflect the ethical obligation of CPAs with respect to working with outside advertising agencies to market professional services for the CPA? A. Make sure that advertising is done professionally B. Prohibit advertising on social media C. Make sure the agency does not do anything that would put you in violation of the ethics rules D. Prohibit statements about the scope of professional services

C. Make sure the agency does not do anything that would put you in violation of the ethics rules

54. Management's attitude toward aggressive financial statement reporting and its emphasis on meeting projected profit numbers would significantly influence an entity's control environment when A. Internal auditors report to the audit committee B. The audit committee is active in overseeing the entity's financial reporting C. Management is dominated by one shareholder with little other governance D. Management does not have a stock option plan

C. Management is dominated by one shareholder with little other governance

5. In surveys of managers, which technique to manage earnings was considered most acceptable? Changing inventory valuation in order to influence earnings Accounting manipulation C. Manipulating operating decisions Establishing cookie jar reserves

C. Manipulating operating decisions

27. Which of the following is not part of the fraud triangle? A. Incentives B. Opportunity C. Materiality D. Rationalization

C. Materiality

17. Which of the following is not correct about materiality? A. The concept of materiality recognizes that some matters are more important for fair presentation of financial statements B. Materiality judgments are made in light of surrounding circumstances and necessarily involve quantitative and qualitative judgments C. Materiality should be predictable from audit to audit so that the readers of financial statements know what constitutes materiality D. An auditor's consideration of materiality is influenced by the auditor's perception of the need of the readers of the financial statements

C. Materiality should be predictable from audit to audit so that the readers of financial statements know what constitutes materiality

2. Motivations to smooth net income over time include each of the following except: Maximize bonuses and stock option values Steady increase in earnings each year C. Minimize overall taxes Make it appear managers are doing better than they really are

C. Minimize overall taxes

57. In the Computer Associates case, each of the following allegations were made against the company except for the following: A. Backdating software contracts into the prior month B. Executing contracts with preprinted dates from prior quarter C. Misusing company resources by members of top management D. Extending quarters by at least 3 business days

C. Misusing company resources by members of top management

15. CPAs can advertise and solicit clients as long as such practices are: A. Conducted in a professional manner B. Informative about the CPA's services C. Not conducted in a misleading or deceptive manner D. Paid for by outside parties

C. Not conducted in a misleading or deceptive manner

12. [The following information applies to the questions displayed below.] Jose and Emily work as auditors for the state of Texas. They have been assigned to the audit of the Lone Star School District. There have been some problems with audit documentation for the travel and entertainment reimbursement claims of the manager of the school district. The manager knows about the concerns of Jose and Emily, and he approaches them about the matter. The following conversation takes place: Manager: Listen, I've requested the documentation you asked for, but the hotel says it's no longer in its system. Jose: Don't you have the credit card receipt or credit card statement?Manager: I paid cash. Jose: What about a copy of the hotel bill? Manager: I threw it out. Emily: That's a problem. We have to document all your travel and entertainment expenses for the city manager's office. Manager: Well, I can't produce documents that the hotel can't find. What do you want me to do? Jose and Emily would probably have to report this incident under which Principles section of the AICPA Code of Conduct? A. Public Interest B. Integrity C. Objectivity and Independence D. Due Care

C. Objectivity and Independence

59. In the Imperial Valley Thrift & Loan case, each of the following were reasons for the going concern issue except for: A. The magnitude of loan losses B. Insufficient equity capital C. Operating losses over an extended period of time D. Questions about the collectability of outstanding loans

C. Operating losses over an extended period of time

18. The Ethical Leadership Scale developed by Kelly and Early identify each of the following measures of leadership: Personal ethical competence, ethical leadership, and ethical standards Personal ethical competence, ethical standards, and ethical organization C. Personal ethical competence, ethical leadership, and ethical organization Ethical leadership, moral intensity, and ethical culture

C. Personal ethical competence, ethical leadership, and ethical organization

17. Your manager asks you to "cook the books" to support a loan application at the local bank. The manager insists it is a one-time request. What should you do? Multiple Choice A. Go along with the manager's request B. Talk to others in the company to determine how they handled such situations C. Refuse to go along with the request D. Inform the audit committee

C. Refuse to go along with the request

11. Sarah's concern in the Solutions Network case is: Expenses were delayed at year-end to manage earnings Revenue was recorded at year-end before the agreement with the customer was finalized C. Revenue was accelerated into an earlier period through channel stuffing Off-balance sheet entities were not disclosed

C. Revenue was accelerated into an earlier period through channel stuffing

11. When would it be appropriate for an auditor to withdraw from an engagement? A. In order to avoid issuing an adverse opinion. B. When that auditor cannot observe the taking of inventory or is unable to confirm receivables. C. When the auditor concludes that management cannot be trusted. D. When the auditor has overbooked too much work.

C. When the auditor concludes that management cannot be trusted.

19. The ethical issue in the Beauda Medical case is: A. Whether an audit firm should inform one audit client about malfunctioning equipment at another client that the former plans to buy B. Whether an audit firm should inform one audit client about fraudulent financial statements of another client C. Whether certain expenditures should be capitalized rather than expensed D. Whether revenue should be accelerated into an earlier period

A. Whether an audit firm should inform one audit client about malfunctioning equipment at another client that the former plans to buy

16. In FCPA matters, the following would be considered effective compliance program policies except: A. Few resources dedicated to compliance of standards Auditing of compliance functions Availability of compliance expertise on the board Clear reporting structure for compliance personnel

A. Few resources dedicated to compliance of standards

46. In which of the following circumstances would a qualified opinion be appropriate? A. The statements are not in conformity with generally accepted accounting principles regarding stock options plans and but does not have pervasive effect on the financial statements. B. The statements are not in conformity with generally accepted accounting principles regarding stock options plans and has pervasive effect on the financial statements. C. The auditor has been unable to obtain sufficient competent evidential matter. D. The principal auditors decide to withdraw from the engagement due to distrust of management.

A. The statements are not in conformity with generally accepted accounting principles regarding stock options plans and but does not have pervasive effect on the financial statements.

6. An important factor in evaluating moral intensity is: A. Temporal immediacy of the effect of the moral act Consequences of proximity of the moral agent and ethical leadership Influence of moral judgment on moral intensity All of the above are relevant factors

A. Temporal immediacy of the effect of the moral act

12. Section 301 of the Sarbanes-Oxley Act requires A. The establishment of procedures to accept employee complaints B. The principle executive to certify that they have reviewed the financial statements C. A report of the company's internal control over financial reporting D. Code of ethics requirements for senior officers

A. The establishment of procedures to accept employee complaints

9. Inherent risk refers to: A. The possibility that a material misstatement will occur within the reporting company's accounting information system The possibility that a material misstatement that has occurred will not be detected on a timely basis by the company's control system The possibility that a material misstatement that has occurred will not be caught be the independent auditor's testing The possibility that a material misstatement will occur in the financial statements

A. The possibility that a material misstatement will occur within the reporting company's accounting information system

19. The best definition of a financial restatement is: A. A company, either voluntarily or under prompting by its auditors or regulators, revises its public financial information that was previously reported A company, either voluntarily or under prompting by its auditors or regulators, revises its public financial information for the current period An adjustment of financial information due to an error correction All are part of the definition

A. A company, either voluntarily or under prompting by its auditors or regulators, revises its public financial information that was previously reported

10. Under the IMA's standards of ethical practice, an accounting professional can consider informing authorities or individuals not employed by the organization when an ethical dilemma occurs about an accounting or financial reporting matter that remains unresolved if he/she: A. Believes there is a clear violation of the law B. Contacts his/her immediate superior who says to forget about the matter C. Informs the external auditors who tell him/her to inform the appropriate authorities D. Believes there has been an ethical violation

A. Believes there is a clear violation of the law

17. The TransWays' case deals with legal liabilities due to: A. Bribery of foreign government officials Fraudulent financial statements Facilitating payments to government agents Bribery of U.S. government officials

A. Bribery of foreign government officials

16. Which statement is correct with respect to a CPA's ethical obligation to return client books and records and CPA workpapers? A. Client-provided records in the custody or control of the CPA should be returned to the client at the client's request B. CPA workpapers should be given to the client at the end of each audit C. CPA work product never has to be turned over to the client D. Client-provided records should be destroyed after the audit

A. Client-provided records in the custody or control of the CPA should be returned to the client at the client's request

1. An unusual aspect of the Green Mountain case is it included: Multiple Choice A. Conference calls that provided earnings guidance to shareholders and analysts were used to mask a financial fraud Desire to meet or beat analysts' earnings expectations led to manipulation of receivables balances Company violated the Sarbanes-Oxley Act PricewaterhouseCoopers knew about inflated inventory values

A. Conference calls that provided earnings guidance to shareholders and analysts were used to mask a financial fraud

65. Fannie Mae's financial statements were investigated because of allegations that the company: A. Deferred derivative losses on the balance sheet thereby inflating profits B. Used derivatives to hid subprime loans C. Sold derivatives to increase cash flows prior to bank financing D. All of these

A. Deferred derivative losses on the balance sheet thereby inflating profits

17. The reporting requirements for fraud are detailed in Section 10A of the Securities Exchange Act of 1934. Which of the following steps are NOT part of a prescribed process that should be followed in deciding whether to report fraud? A. Determine who is responsible for the fraud. B. Determine whether the violations have a material effect, quantitatively or qualitatively, on the financial statements. C. Determine whether appropriate remedial action has been taken. D. Determine whether reporting to the SEC is necessary.

A. Determine who is responsible for the fraud.

In the U.S., if the auditor can demonstrate having performed services with the same degree of skill and judgment possessed by others in the profession, it can be said to have exercised:

A. Due Care

17. In the Medicis audit, the auditors failed to complete all of the following except: Failed to issue an unqualified opinion Failed to follow GAAS Failed to correct control deficiencies Failed to obtain adequate evidence related to management representations

A. Failed to issue an unqualified opinion

41. A study conducted of financial statement restatements during the period of 2007 through 2009 indicated a decline in the number of restatements that were attributed to each of the following except for: A. Improved audits of financial statements B. Improved reliability of internal controls C. A more relaxed approach of the SEC regarding materiality and the need to file restatements D. Companies making and reporting fewer mistakes or catching fewer mistakes

A. Improved audits of financial statements

12. 12. Which rule of professional conduct in the AICPA Code does not apply both to internal and external accountants who are CPAs and members of the Institute? A. Independence B. Integrity C. Objectivity D. Due care

A. Independence

4. Refer to Question 1. Grace was lacking in several professional areas in relying on the client rather than external evidence. Which of the following traits to enable an auditor to maintain a skeptical mindset in executing an audit? A. Independence, technical proficiency, and professional judgment B. Integrity, objectivity, and due care C. The public interest, advocacy, and professional judgment D. Familiarity, technical proficiency, and due care

A. Independence, technical proficiency, and professional judgment

10. Which of the following would eliminate the ability of a plaintiff to prevail under Rule 10b-5? A. No reliance by the plaintiff on the financial statements a factual misrepresentation the intent to deceive, manipulate, or defraud damages suffered

A. No reliance by the plaintiff on the financial statements

8. The insider trading case against Scott London focused on: A. Providing confidential information about audit clients to a friend B. Personally buying stock of audit clients after receiving confidential information C. Providing confidential information about audit clients to his son D. Personally selling stock of audit clients after receiving confidential information

A. Providing confidential information about audit clients to a friend

13. Which of the following summarizes the essence of general standards of GAAS? A. Quality of professionals that perform an audit B. Criteria used to judge whether the audit has met quality requirements C. The standards that guide auditors in issuing the audit report D. Whether the auditor obtained sufficient competent evidential matter to render an opinion

A. Quality of professionals that perform an audit

9. The anchoring tendency relates to: A. Starting from an initial numerical value and then adjusting insufficiently away from it in forming a final judgment B. Starting from management's estimate and then adjusting sufficiently away from it in forming a final judgment C. Developing a system to give voice to one's values D. Developing a decision making framework

A. Starting from an initial numerical value and then adjusting insufficiently away from it in forming a final judgment

9. Adverse opinions are preceded by a separate paragraph that should meet all of the following except for: A. Substantive alternative treatments of GAAP B. Substantive reasons for the adverse opinion C. Principal effect of the adverse treatment on financial position and results of operations and cash flows D. Entitled "Basis for Adverse Opinion"

A. Substantive alternative treatments of GAAP

5. Three of six defenses Kay & Lee might use would include which of the following? A. The third party did not suffer a loss; any loss was caused by other events; the claim is invalid because the statute of limitations has expired The auditor did not have a duty to third party; the third party used due care; the auditor's work was performed in accord with professional standards The auditor had a duty to parties other than the plaintiff; the third party was not negligent; the claim is invalid under the second restatement of the law of torts The auditor's work was performed in accord with GAAS; the third party suffered a loss; any loss to the third party was caused by other events

A. The third party did not suffer a loss; any loss was caused by other events; the claim is invalid because the statute of limitations has expired

3. Which of the following is NOT one of the defenses an auditor can use against third party lawsuits for fraud? A. The third party was not in contractual privity The auditor did not have a duty to the third party The third party was negligent The third party did not suffer a loss

A. The third party was not in contractual privity

62. The Dunco Industries case deals with issues related to: A. The timing of revenue recognition and shipping date of merchandise B. The timing of revenue recognition and delivery date of merchandise C. The timing of expense recognition on accrual accounts D. Manual entries after the quarter's close that lacked sufficient supporting documentation

A. The timing of revenue recognition and shipping date of merchandise

6. Grant Thornton prevailed in the Epic Resorts case with a defense that included, among other defenses: A. There was no evidence of a causal connection between alleged misrepresentation and the funds' alleged injury. There was evidence of actual and justifiable reliance. Liability for fraudulent misrepresentation runs only to those involved in privity, foreseeable reliance, or reasonably foreseeable reliance. Grant Thornton did not engage in gross negligence.

A. There was no evidence of a causal connection between alleged misrepresentation and the funds' alleged injury.

4. The defendant-auditors in the Anjoorian case argued, in their defense, that: A. To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated The plaintiff's theory of damages did not meet the foreseen legal criteria They had no liability to the client because the client did not rely on the audited financial statements They followed generally accepted auditing standards

A. To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated

4. The defendant-auditors in the Anjoorian case argued, in their defense, that: A. To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated. The plaintiff's theory of damages did not meet the foreseen legal criteria They had no liability to the client because the client did not rely on the audited financial statements They followed generally accepted auditing standards

A. To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated.

16. What was the original motivation by FASB on SPEs? A. To establish a mechanism to encourage companies to invest in needed assets while keeping related debt of its books To keep the large amount of debt off the books To sell non-producing assets to the SPE To select which assets to sell to the SPEs affecting the gain

A. To establish a mechanism to encourage companies to invest in needed assets while keeping related debt of its books

39. The Committee of Sponsoring Organizations of the Treadway Committee (COSO) analyzed the financial reporting of public companies during the 1998-2007 periods when business failures due to accounting fraud were high and found that: A. Top management was frequently involved in the fraud with the CEO and/or CFO being the most frequently involved B. The most common fraud technique involved understating expenses C. The audit committee always sanctioned the fraud D. A minority of audit reports issued during the fraud period contained unqualified audit opinions

A. Top management was frequently involved in the fraud with the CEO and/or CFO being the most frequently involved

1. [The following information applies to the questions displayed below.] Yes. Cheating occurs at the prestigious Harvard University. In 2012, Harvard forced dozens of students to leave in its largest cheating scandal in memory, but the institution would not address assertions that the blame rested partly with a professor and his teaching assistants. The issue is whether cheating is truly cheating when students collaborate with each other to find the right answer—in a take-home final exam. Harvard released the results of its investigation into the controversy, in which 125 undergraduates were alleged to have cheated on an exam in May 2012. The university said that more than half of the students were forced to withdraw, a penalty that typically lasts from two to four semesters. Many returned by 2015. Of the remaining cases, about half were put on disciplinary probation—a strong warning that becomes part of a student's official record. The rest of the students avoided punishment. In previous years, students thought of Government 1310 as an easy class with optional attendance and frequent collaboration. But students who took it in spring 2012 said that it had suddenly become quite difficult, with tests that were hard to comprehend, so they sought help from the graduate teaching assistants who ran the class discussion groups, graded assignments, and advised them on interpreting exam questions. Administrators said that on final-exam questions, some students supplied identical answers (right down to typographical errors in some cases), indicating that they had written them together or plagiarized them. But some students claimed that the similarities in their answers were due to sharing notes or sitting in on sessions with the same teaching assistants. The instructions on the take-home exam explicitly prohibited collaboration, but many students said they did not think that included talking with teaching assistants. The first page of the exam contained these instructions: "The exam is completely open book, open note, open Internet, etc. However, in all other regards, this should fall under similar guidelines that apply to in-class exams. More specifically, students may not discuss the exam with others—this includes resident tutors, writing centers, etc." Students complained about confusing questions on the final exam. Due to "some good questions" from students, the instructor clarified three exam questions by email before the due date of the exams. Students claim to have believed that collaboration was allowed in the course. The course's instructor and the teaching assistants sometimes encouraged collaboration, in fact. The teaching assistants—graduate students who graded the exams and ran weekly discussion sessions—varied widely in how they prepared students for the exams, so it was common for students in different sections to share lecture notes and reading materials. During the final exam, some teaching assistants even worked with students to define unfamiliar terms and help them figure out exactly what certain test questions were asking. Some have questioned whether it is the test's design, rather than the students' conduct, that should be criticized. Others place the blame on the teaching assistants who opened the door to collaboration outside of class by their own behavior in helping students to understand the questions better. Harvard adopted an honor code on May 6, 2014. In May 2017, Harvard announced that more than 60 students enrolled in Computer Science 50 (CS50): Introduction to Computer Science I appeared before the College's Honor Council investigating cases of academic dishonesty. While the facts have been kept confidential so far, a statement on the course website establishes standards for behavior: "The course recognizes that interactions with classmates and others can facilitate mastery of the course's material, [but] there remains a line between enlisting the help of another and submitting the work of another." The site provides some guidance: Acts of collaboration that are reasonable include sharing a few lines of code. Acts not reasonable include soliciting solutions to homework problems online. CS50 introduced a "regret clause," allowing students who commit "unreasonable" acts to face only course-specific penalties [not institutional] if they report the violation within 72 hours. Students who engaged in cheating would have probably violated which of the following Six Pillars of Character more than the others? A. Trustworthiness B. Respect C. Responsibility D. Fairness

A. Trustworthiness

1. The statement about leadership attributed to Ciulla is: A. Visions are not simple goals, but rather ways of seeing the future that implicitly or explicitly entail some notion of the good Principle-centered leaders build greater, more trusting and communicative relationships with others in the workplace Leaders lead by example not based on what they say Leaders always follow the law even if it deviates from ethical action

A. Visions are not simple goals, but rather ways of seeing the future that implicitly or explicitly entail some notion of the good

20. The Navistar International case examines: A. Whether Deloitte followed all provisions of the AICPA Code B. Whether PwC followed all provisions of the AICPA Code C. Recording of revenue in the proper period D. Recording of round-trip transactions

A. Whether Deloitte followed all provisions of the AICPA Code

6. The philosophical methods of moral reasoning suggest that once we have ascertained the facts, we should ask ourselves certain questions when trying to resolve a moral issue. Which of the following is NOT one of those questions? A. Which course of action maximizes my net benefits? B. Which course of action develops moral virtues? C. Which course of action advances the common good? D. What benefits and what harms will each course of action produce and which alternative will lead to the best overall consequences?

A. Which course of action maximizes my net benefits?

When courts find accountants liable for constructive fraud, the implication is that: Auditors should always be liable when investors lose money due to deceit Accountants may be liable for fraud even when they had no knowledge of deceit Auditors should be able to detect all deceit by management Accountants may be held liable even to third parties to whom they did not have a duty

Accountants may be liable for fraud even when they had no knowledge of deceit

The problem of a compliance approach in implementing global standards is that it can result in: Achieving informal compliance without considering ethical consequences Achieving a true and fair view with respect to the auditor's report Achieving a dual system of boards of directors Achieving formal compliance without considering ethical consequences

Achieving formal compliance without considering ethical consequences

The Rosenblum case ruling was of concern to the accounting profession because it implied that: Full joint and several liability would be reinstated All possible third party users of financial statements must be anticipated The concept of contractual privity would no longer be important Financial liability would occur when scienter was proven

All possible third party users of financial statements must be anticipated

13. Backdating of stock options is unethical because: A. It favors top executives over other company employees with respect to the number of options B. It purposefully manipulates the option criteria that determine their value C. It changes the exercise price on options to benefit top executives D. It changes the exercise date on options to benefit top executives

B. It purposefully manipulates the option criteria that determine their value

11. Jason is the fastest worker on the audit of a company for the firm Zits LLP. Other Zits workers take twice as long to complete the equivalent amount of work as Jason. One day Jason is approached by the other workers and is asked to slow down "You are exceeding the time budget for the audit and making the rest of us look bad," said one staff member. From an organizational, ethical point of view, the best thing for Jason to do is: A. Tell the other staff members that he will use the time he saves on his budget to help them to meet their budget by picking up their slack B. Approach the supervisor to discuss the pressure of fellow staff to slow down on doing audit work C. Explain to the other staff members that he works diligently and they should do the same D. Tell the other staff members to mind their own business

B. Approach the supervisor to discuss the pressure of fellow staff to slow down on doing audit work

58. In the ZZZZ best case, Barry Minkow was sentenced to 5 years for his involvement in A. A fraudulent insurance restoration scam B. Insider trading on Lennar stock C. Stealing from a San Diego church D. Overcharging a LA housewife for carpet cleaning services

B. Insider trading on Lennar stock

The Ultramares V touche case of 1933 held that a case of action based on negligence could not be maintained by a third party who was not in contractual privity; however, it did leave open to the possibility that:

B. Third parties may sue in the case of fraud or constructive fraud

11. Accountants may hesitate to record a questionable entry if they know: Internal audit is likely to detect the possible error B. Internal audit is likely to detect the inappropriate financial reporting practices Internal audit is likely to communicate it to the external auditors Internal audit is likely to blow the whistle on inappropriate financial reporting practices

B. Internal audit is likely to detect the inappropriate financial reporting practices

16. [The following information applies to the questions displayed below.] Gloria Hernandez is the controller of a public company. She just completed a meeting with her superior, John Harrison, who is the CFO of the company. Harrison tried to convince Hernandez to go along with his proposal to combine 12 expenditures for repair and maintenance of a plant asset into one amount ($1 million). Each of the expenditures is less than $100,000, the cutoff point for capitalizing expenditures as an asset and depreciating it over the useful life. Hernandez asked for time to think about the matter. As the controller and chief accounting officer of the company, Hernandez knows it's her responsibility to decide how to record the expenditures. She knows that the $1 million amount is material to earnings and the rules in accounting require expensing of each individual item, not capitalization. However, she is under a great deal of pressure to go along with capitalization to boost earnings and meet financial analysts' earnings expectations, and provide for a bonus to top management including herself. Her job may be at stake, and she doesn't want to disappoint her boss. Assume both Hernandez and Harrison hold the CPA and CMA designations. Gloria Hernandez's situation is analogous to which real-world figure? A. Sherron Watkins B. Betty Vinson C. Lea Fastow D. Dave Meyer

B. Betty Vinson

11. Section 302 of the Sarbanes-Oxley Act requires that management: A. Assess the company's internal controls B. Certify the financial statements C. Disclose all executive compensation D. Blow the whistle on corporate wrongdoing

B. Certify the financial statements

45. Which of the following is an example of opinion shopping by a company? A. Changing auditors due to the quality of work by the auditors B. Changing auditors due to wanting a different accounting treatment than required by the external auditor C. Changing auditors due to the size of the audit fees D. Changing auditors due to conflicts over the nature and scope of the audit

B. Changing auditors due to wanting a different accounting treatment than required by the external auditor

19. The Tax Shelters case deals with: A. Ignoring the recording of lottery gains in a client's tax return B. Changing culture in the tax department of a CPA firm C. Pressure from one's superior to manipulate financial statements D. Whether to sell tax shelter products to members of the audit firm

B. Changing culture in the tax department of a CPA firm

33. Backdating options refers to: A. Crossing out the date of exercise on the option certificate and changing it to an earlier date when the stock price was lower B. Changing the grant date of the options to lower the exercise price and reduce reported earnings C. Granting options to employees working for the company in years prior to the granting of the options D. Changing the future exercise price to correspond market increases in the stock price

B. Changing the grant date of the options to lower the exercise price and reduce reported earnings

14. Which of the following summarizes the essence of field work standards of GAAS? A. Quality of professionals that perform an audit B. Criteria for judging the quality of audit work C. Whether the auditor was independent in conducting the audit D. Whether the auditor reviewed the client's financial statements for adherence to GAAP

B. Criteria for judging the quality of audit work

15. Which of the following was not a technique used by Enron to manage earnings? Used reserves to increase earnings when reported amounts were too low B. Deliberately overstated the allowance for uncollectibles and adjusted it downward in future years Used mark-to-market estimates to inflate earnings in violation of GAAP Selected which operating assets to "sell" to the SPEs, affecting the gain on transfer and earnings effect

B. Deliberately overstated the allowance for uncollectibles and adjusted it downward in future years

28. The difference between an error in the financial statements as compared to fraud is: A. An error is always an intentional act designed to deceive another party B. Fraud is always an intentional act designed to deceive another party C. An error always leads to a qualification of the auditors' opinion D. Fraudulent financial reporting is always material in amount

B. Fraud is always an intentional act designed to deceive another party

11. Required Information Refer to Question 10. Olympus attempted to cover up the losses by writing investments off as ___________. A. Market-to-market trading securities B. Goodwill impairments C. Discontinued operations D. Deferred taxes due to countries outside Japan

B. Goodwill impairments

4. Which of the following authors(s) focus(es) on "management's intent to deceive the stakeholders by using accounting devices to positively influence reported earnings?" Dechow and Skinner B. Healy and Wahlen Schipper Thomas E. McKee

B. Healy and Wahlen

3. In its investigation of ZZZZ Best, the House Subcommittee on Oversight and Investigations looked into: A. Why the board of directors failed to uncover the fraud at ZZZZ Best B. How the company was able to create 80% or more fictitious revenue C. How the company was able to create cookie jar reserves D. All of the above

B. How the company was able to create 80% or more fictitious revenue

5. Which of the following is an element of the introductory paragraph of an auditor's report? A. Identifies the type of opinion the auditor is giving B. Identifies the entity, financial statements being audited and time period C. Identifies audit testing and procedures used D. Identifies the generally accepted auditing standards followed in conducting the audit

B. Identifies the entity, financial statements being audited and time period

64. The Groupon case deals with all but the following issues? A. Improperly estimated customer returns B. Improper recognition of gross revenue C. Used a new innovative metric of "Adjusted Consolidated Segment Operating Income" D. Blamed material weakness on their auditors EY

B. Improper recognition of gross revenue

36. What is the motive behind the PCAOB Integrated Audit Concept? A. Elevation of importance of internal controls B. Improvement of the quality and integrity of both internal controls over financial reporting and independent financial statement audits C. Improvement of the speed and reliability of both corporate financial reporting and independent financial statement audits D. Elevation of importance of independent financial statement audits

B. Improvement of the quality and integrity of both internal controls over financial reporting and independent financial statement audits

4. To succeed in obtaining a judgment, the bank would have to prove these three things as part of a five-step process. False representation by the accountant; belief by the accountant the representation was accurate; the accountant intended to induce the third party to rely on accurate representation B. Knowledge or belief by the accountant the representation was false; that the accountant intended to induce the third party to rely on false information; that the third party relied on false information Accountant intended the third party to rely on accurate representation; that the third party relied on the accurate representation which was later proved false; that the third party suffered damages That the third party suffered damages; an accurate representation by the accountant; knowledge or belief by the accountant that the representation was accurate

B. Knowledge or belief by the accountant the representation was false; that the accountant intended to induce the third party to rely on false information; that the third party relied on false information

18. One of the differences between the ethical obligations of CPAs and lawyers is: A. Lawyers are obligated first and foremost to the public interest while CPAs are obligated to their clients' interests B. Lawyers are obligated first and foremost to the client's interest while CPAs are obligated to the public interest C. Lawyers and CPAs both must be independent of their clients D. Lawyers and CPAs must exercise objective judgment

B. Lawyers are obligated first and foremost to the client's interest while CPAs are obligated to the public interest

15. Which of the following is NOT a common audit deficiency in PCAOB inspections? Inadequate internal controls over financial reporting B. Maintaining an independent audits Lack of due care Inability to exercise the appropriate level of professional skepticism

B. Maintaining an independent audits

9. In Bobek's study of the effect of gender on decision-making of public accounting professionals, it was found that: Males were more likely than females to concede to the client's demands in an audit condition B. Males were less likely than females to concede to the client's demand in an audit condition Males are more likely than females to use an intuitionist approach in decision making Males were less likely to concede to the client's demands on a tax condition than an audit condition

B. Males were less likely than females to concede to the client's demand in an audit condition

6. Rule 10b-5 of the Securities Exchange Act of 1934 makes it unlawful for a CPA to engage in each of the following activities except: Employ any device, scheme, or artifice to defraud B. Omit a material fact necessary for the financial statements to present fairly financial position, results of operations, and cash flows Engage in any act, practice, or course of business to commit fraud or deceit in connection with the purchase or sale of a security Make an untrue statement of material fact or omit a material fact necessary in order to make the statement made, in the light of the circumstances under which they were made, not misleading

B. Omit a material fact necessary for the financial statements to present fairly financial position, results of operations, and cash flows

6. Refer to question 5. The approach Solutions is taking is most closely aligned with Operating expense management B. Operating earnings management Accounting expense management Accounting earnings management

B. Operating earnings management

2. Refer to question 1. Giving voice to values considers values to be the first pillar of the methodology. In his position as advisory manager of the audit, Steve should be considering his commitment to what? Individual values B. Organizational values Ethical values Character-based values

B. Organizational values

16. The Giving Voice to Values framework distinguishes between organizational and individual values because: Organizational values are internal to each individual while individual values are highly visible within the organization B. Organizational values are highly visible within the organization while individual values are internal to the very core of individuals Organizational values are influenced by ethical leadership while individual values are influenced by perceptions of organizational values Organizational values create perceptions of ethical leadership while individual values are innate to the individual

B. Organizational values are highly visible within the organization while individual values are internal to the very core of individuals

20. Cynthia Cooper's actions in the WorldCom case can be best characterized as demonstrating: A. Courage and expediency B. Persistence and courage C. Courage and loyalty D. Persistence and loyalty

B. Persistence and courage

20. Because of the risk of material misstatement due to improper management representations, an audit of financial statements in accordance with GAAS should be performed with: Objective judgment B. Professional skepticism Internal controls Due diligence

B. Professional skepticism

20. Because of the risk of material misstatement due to improper management representations, an audit of financial statements in accordance with GAAS should be performed with: Objective judgment Professional skepticism Internal controls Due diligence

B. Professional skepticism

51. Because of the risk of material misstatement, an audit of financial statements in accordance with GAAS should be planned and performed with A. Objective judgment B. Professional skepticism C. Internal controls D. Due care

B. Professional skepticism

9. Natalie got the call she had been waiting for over six long months. Her complaint to the human resources department of Franklin Industries had been dismissed. It was HR's conclusion that she was not retaliated against for reporting an alleged embezzlement by the Accounting Department manager. In fact, HR ruled there was no embezzlement at all. Natalie had been demoted from assistant manager of the department to staff supervisor seven months ago after informing Stuart Masters, the controller, earlier in 2018 about the embezzlement. Her blood started to boil as she thought about all the pain and agony these past six months without any level of satisfaction for her troubles. Natalie Garson is a CPA who works for Franklin Industries, a publicly-owned company and manufacturer of trusses and other structural components for home builders throughout the U.S. Six months ago she filed a complaint with HR after discussing a sensitive matter with her best friend and co-worker, Roger Harris. Natalie trusted Harris, who had six years' experience at Franklin. The essence of the discussion was that Natalie was informed by the accounting staff of what appeared to be unusual transactions between Denny King, the department manager, and an outside company no one had ever heard of before. The staff had uncovered over $5 million payments, authorized by King, to Vic Construction. No one could find any documentation about Vic so the staff dug deeper and discovered that the owner of Vic Construction was Victoria King. Further examination determined that Victoria King and Denny King were sisters. Once Natalie was convinced there was more to it than meets the eye, she informed the internal auditors who investigated and found that Vic Construction made a $5 million electronic transfer to a separate business owned by Denny King. One thing lead to another and it was determined by the internal auditors that King had funneled $5 million to Vic construction, which, at a later date, transferred the money back to King. It was a $5 million embezzlement from Franklin Industries. Natalie met with Roger Harris that night and told him about the HR decision that went against her. She was concerned whether the internal auditors would act now in light of that decision. She knew the culture at Franklin was "don't rock the boat." That didn't matter to her. She was always true to her values and not afraid to act when a wrongdoing had occurred. She felt particularly motivated in this case - it was personal. She felt the need to be vindicated. She hoped Roger would be supportive. As it turned out, Roger cautioned Natalie about taking the matter any further. He had worked for Franklin a lot longer than Natalie and knew the board of directors consisted mostly of insider directors. The CEO of Franklin was also the chair of the board. It was well known in the company that whatever the CEO wanted to do, the board rubber-stamped it. Natalie left the meeting with Roger wondering whether she was on her own. She knew she had to act but didn't know the best way to go about it. Even though Roger cautioned against going to the CEO or board, Natalie didn't dismiss that option. Assume you are in Natalie's position. Answer the following questions. Natalie's next step should probably be to _____________. A. Continue employment as though nothing has happened B. Report to the external auditors C. Report to the SEC D. Seek legal advice

B. Report to the external auditors

2. Refer to question 1. The presentation of financial information should contain this characteristic, which was clearly lacking in the Nortel statements. Representational usefulness B. Representational faithfulness Representational relevance Representational materiality

B. Representational faithfulness

19. Which of the following is NOT a component of an effective internal control environment in COSO Internal Control - Integrated Framework? A. The control environment B. Risk abatement C. Control activities D. Information and communication

B. Risk abatement

18. The accounting shenanigan used in the Dell Computer case can best be described as: Recording revenue from exclusivity payments too soon or of questionable quality B. Shifting current revenue from exclusivity payments to a later period Shifting future expenses to the current period as a special charge Shifting current expenses to a later period

B. Shifting current revenue from exclusivity payments to a later period

8. Refer to question 5. Sarah and Paul are industry CPAs rather than public CPAs. R. Z. Elias conducted a study of corporate ethical values and earnings management ethics. He found that CPAs in industry in an organization are: Significantly more likely than those in public accounting to perceive high ethical values. B. Significantly less likely than those in public accounting to perceive high ethical values. More reluctant to report to the SEC than CPAs in public accounting. No statistical significant difference exists between industry and public accounting CPAs.

B. Significantly less likely than those in public accounting to perceive high ethical values.

2. [The following information applies to the questions displayed below.] Yes. Cheating occurs at the prestigious Harvard University. In 2012, Harvard forced dozens of students to leave in its largest cheating scandal in memory, but the institution would not address assertions that the blame rested partly with a professor and his teaching assistants. The issue is whether cheating is truly cheating when students collaborate with each other to find the right answer—in a take-home final exam. Harvard released the results of its investigation into the controversy, in which 125 undergraduates were alleged to have cheated on an exam in May 2012. The university said that more than half of the students were forced to withdraw, a penalty that typically lasts from two to four semesters. Many returned by 2015. Of the remaining cases, about half were put on disciplinary probation—a strong warning that becomes part of a student's official record. The rest of the students avoided punishment. In previous years, students thought of Government 1310 as an easy class with optional attendance and frequent collaboration. But students who took it in spring 2012 said that it had suddenly become quite difficult, with tests that were hard to comprehend, so they sought help from the graduate teaching assistants who ran the class discussion groups, graded assignments, and advised them on interpreting exam questions. Administrators said that on final-exam questions, some students supplied identical answers (right down to typographical errors in some cases), indicating that they had written them together or plagiarized them. But some students claimed that the similarities in their answers were due to sharing notes or sitting in on sessions with the same teaching assistants. The instructions on the take-home exam explicitly prohibited collaboration, but many students said they did not think that included talking with teaching assistants. The first page of the exam contained these instructions: "The exam is completely open book, open note, open Internet, etc. However, in all other regards, this should fall under similar guidelines that apply to in-class exams. More specifically, students may not discuss the exam with others—this includes resident tutors, writing centers, etc." Students complained about confusing questions on the final exam. Due to "some good questions" from students, the instructor clarified three exam questions by email before the due date of the exams. Students claim to have believed that collaboration was allowed in the course. The course's instructor and the teaching assistants sometimes encouraged collaboration, in fact. The teaching assistants—graduate students who graded the exams and ran weekly discussion sessions—varied widely in how they prepared students for the exams, so it was common for students in different sections to share lecture notes and reading materials. During the final exam, some teaching assistants even worked with students to define unfamiliar terms and help them figure out exactly what certain test questions were asking. Some have questioned whether it is the test's design, rather than the students' conduct, that should be criticized. Others place the blame on the teaching assistants who opened the door to collaboration outside of class by their own behavior in helping students to understand the questions better. Harvard adopted an honor code on May 6, 2014. In May 2017, Harvard announced that more than 60 students enrolled in Computer Science 50 (CS50): Introduction to Computer Science I appeared before the College's Honor Council investigating cases of academic dishonesty. While the facts have been kept confidential so far, a statement on the course website establishes standards for behavior: "The course recognizes that interactions with classmates and others can facilitate mastery of the course's material, [but] there remains a line between enlisting the help of another and submitting the work of another." The site provides some guidance: Acts of collaboration that are reasonable include sharing a few lines of code. Acts not reasonable include soliciting solutions to homework problems online. CS50 introduced a "regret clause," allowing students who commit "unreasonable" acts to face only course-specific penalties [not institutional] if they report the violation within 72 hours. Students who engage in cheating usually rationalize their behavior via what? A. Ethical relativism B. Situation ethics C. Cultural values D. Responsibility

B. Situation Ethics

Under the Securities Act of 1933, if damages were incurred and there was a material misstatement or omission in the financial statements, the CPA will most likely lose the lawsuit unless:

B. The CPA rebuts the allegations

47. Which of the following is not true of "reasonable assurance"? A. The auditors have exercised due care B. The audit opinion is a guarantee that material misstatements have been identified C. The audit has been properly planned and supervised D. The auditors have followed GAAS

B. The audit opinion is a guarantee that material misstatements have been identified

Which of the following would normally be considered sufficient to demonstrate due care on the part of the auditor?

B. The auditor cites adherence to generally accepted auditing standards (GAAS)

10. Under which of the following set of circumstances might the auditors disclaim an opinion? A. The financial statements contain a departure from generally accepted accounting principles, the effect of which is material B. The auditor is unable to obtain sufficient appropriate audit evidence on which to base the opinion C. There has been a material change between periods in the method of the application of accounting principles D. Differences with management that lead to trust issues on the part of the auditor

B. The auditor is unable to obtain sufficient appropriate audit evidence on which to base the opinion

8. Under the Private Securities Litigation Reform Act (PSLRA), if an auditor concludes that an illegal act with a material effect on the financial statements has been reported to, but not dealt with by senior management, the auditor should next report his/her conclusions to: The Securities and Exchange Commission B. The company's board of directors The office of the controller/comptroller for the appropriate state The Federal Bureau of Investigation

B. The company's board of directors

4. The expectations gap refers to: A. The space that exists between a train coming into the station and the platform used to board the train B. The difference between what the public expects an audit to uncover and what the profession believes is the purpose of an audit C. The difference between projected earnings based on analysts' expectations and actually earnings D. The difference between what the audit sets out to discover and what it actually does discover

B. The difference between what the public expects an audit to uncover and what the profession believes is the purpose of an audit

20. The auditor's responsibility with regard to illegal acts is greatest when: A. The illegal acts have an indirect and material effect on financial statement amounts B. The illegal acts have a direct and material effect on financial statement amounts C. The illegal acts have a direct and immaterial effect on financial statement amounts D. Illegal acts exist regardless of the effects on the financial statements

B. The illegal acts have a direct and material effect on financial statement amounts

3. With respect to ethical leadership, the issue in the General Electric case can best be characterized as: The relationship between the chief internal auditor and CEO B. The leadership style of the executives and culture of the company The leadership style of the chief internal auditor and tone at the top The relationship between an audit client and management advisory services client

B. The leadership style of the executives and culture of the company

5. In Thomas Jones' model of moral intensity it can be said about accounting that: A. There is a link between the stage of moral development and ethical reasoning B. The link between social consensus and ethical decision making exists because accounting is a community with shared values and beliefs C. The link between probability of effect and ethical decision making exists because in accounting the amount of time to the consequences of the actions are considered D. There is a link between moral judgment and moral action

B. The link between social consensus and ethical decision making exists because accounting is a community with shared values and beliefs

12. Which of the following is true about PCAOB audit standards? A. The required standards apply to all companies B. The required standards apply to all public companies only C. The required standards apply to all privately held companies only D. The required standards apply to all not-for-profit entities

B. The required standards apply to all public companies only

26. The purpose of the fraud triangle is to identify: A. The causes of when the audit opinion should be qualified. B. To identify the causes of and reasons for fraud when there may be intentional misstatements or omissions of amounts or disclosures in the financial statements. C. To identify the causes of when there is a lack of independence in performing an audit. D. All of these.

B. To identify the causes of and reasons for fraud when there may be intentional misstatements or omissions of amounts or disclosures in the financial statements.

2. To hold employees accountable to ethical standards, moral managers: Walk the talk of leadership B. Use reward systems to encourage ethical performance Strive to do what is right regardless of the consequences of one's actions All of the above

B. Use reward systems to encourage ethical performance

7. The SEC approach to independence emphasizes independence in fact and appearance in all of the following ways except: A. Proscribing certain financial interests in an audit client. B. Whether a conceptual framework approach is used for evaluating ethics violations C. Restricting certain non auditing services to audit clients. D. Subjecting all auditor conduct to a standard of independence.

B. Whether a conceptual framework approach is used for evaluating ethics violations

49. Which of the following is not an essential area of fraud considerations assessed by the auditors? A. Assessing the possibility of fraud B. Whether management deliberatively committed fraud C. Identifying risks of fraud D. Evaluating the characteristics of fraud

B. Whether management deliberatively committed fraud

5. Refer to question 4. One has to wonder about the ethical climate at KPMG due to the lack of ________________. guidance on tax shelter transactions B. an ethical tone at the top transformational leadership all of the these choices are correct

B. an ethical tone at the top

1. The Second Circuit and Eleventh Circuit Courts of Appeal affirmed dismissal of securities fraud claims because the plaintiffs did not adequately plead scienter under the standard imposed by the Private Securities Litigation Reform Act of 1995. Scienter is defined as which of the following? The standard of reasonableness required of a prudent person in the management of his affairs An untrue statement of a material fact C. The intent to deceive, manipulate, or defraud The failure to maintain due diligence during the issuance of new securities known as an IPO

C. The intent to deceive, manipulate, or defraud

5. In Grant Thornton v. Prospect High Income Fund, Grant used each of the following points to defend itself against legal liability except: There was no evidence of a causal connection between Grant's alleged misrepresentation and the funds' alleged injury There was no evidence of actual and justifiable reliance C. There was no evidence of the loss suffered by the plaintiffs Liability for fraudulent misrepresentations runs only to those whom the auditor knows and intends to influence, all of which was not present

C. There was no evidence of the loss suffered by the plaintiffs

1. The Ultramares v. Touche case of 1933 held that a cause of action based on negligence could not be maintained by a third party who was not in contractual privity; however, it did leave open the possibility that: Third parties that were "foreseeable" may sue for ordinary negligence Third parties may sue if one of the parties in contractual privity allowed it to C. Third parties may sue in the case of fraud or constructive fraud Third parties who used the financial statements may sue

C. Third parties may sue in the case of fraud or constructive fraud

7. What is enterprise risk management (ERM)? A process of evaluating internal controls to ensure operations are carried out efficiently and effectively A process designed to identify material events that may affect the financial statements and to manage risk within the entity's risk appetite A process, effected by an entity's board of directors, management, and other personnel designed to identify potential events that may affect the entity and to manage risk within its risk appetite A process by which compliance with laws and regulations can be assessed

C. A process, effected by an entity's board of directors, management, and other personnel designed to identify potential events that may affect the entity and to manage risk within its risk appetite

12. The SEC's complaint in its case against Allergan included a charge that the company: Used off-balance sheet entities to manipulate earnings Falsified inventory values to inflate earnings C. Used non-GAAP measures to meet EPS estimates Used EBITDA to obscure reported earnings

C. Used non-GAAP measures to meet EPS estimates

7. What is enterprise risk management (ERM)? A. A process of evaluating internal controls to ensure operations are carried out efficiently and effectively B. A process designed to identify material events that may affect the financial statements and to manage risk within the entity's risk appetite C. A process, effected by an entity's board of directors, management, and other personnel designed to identify potential events that may affect the entity and to manage risk within its risk appetite D. A process by which compliance with laws and regulations can be assessed

C. A process, effected by an entity's board of directors, management, and other personnel designed to identify potential events that may affect the entity and to manage risk within its risk appetite

10. What is "Operation Broken Gate?" A. An SEC initiative to identify audit firms that violate independence standards B. A PCAOB initiative to identify audit firms with deficiencies in audits through its inspection program C. An SEC initiative to identify auditors who neglect their duties and the required auditing standards D. An AICPA program to implement its conceptual framework standards

C. An SEC initiative to identify auditors who neglect their duties and the required auditing standards

66. The primary accounting issue in the Royal Ahold case is: A. Fraudulent recording of revenues on sales to customers B. Fraudulent use of company resources by top management for personal purposes C. Fraudulent inflation of promotional allowances to increase operating income D. Fraudulent inflation of inventory to reduce losses on the income statement

C. Fraudulent inflation of promotional allowances to increase operating income

12. What should be the first step in decision-making when faced with an ethical dilemma? A. Choose an ethical theory to follow B. Discuss with others your options C. Get the facts surrounding the problem D. Determine consequences

C. Get the facts surrounding the problem

8. Which of the following is NOT required of management under Section 302 of the SOX? Review their disclosure controls and procedures quarterly Identify key control exceptions and determine which are internal control deficiencies C. Assess each internal control deficiency's impact on the audit report Identify and report significant control deficiencies on material weaknesses to the audit committee and independent auditor

C. Assess each internal control deficiency's impact on the audit report

3. Refer to question 1. Nortel's earnings management techniques were indeed detrimental to the long-term value of the firm. Such behavior links to which ethical model of behavior? Rest Four-Step Model Kohlberg's Six Pillars of Character C. Burchard's Ethical Dissonance Model Levitt's Epicurean Model

C. Burchard's Ethical Dissonance Model

4. Transformational leaders: Empower employees to act based on their ethical goals and values Follow what top management sets as its goals for the organization C. Causes change in individuals and social systems Connect the follower's behavior to the collective identity of the organization

C. Causes change in individuals and social systems

9. Refer to question 7. Krispy Kreme's management utterly failed at transformational leadership. This is defined as a leadership approach that causes which of the following? Changes in the company and social system Changes in the company and individuals C. Changes in the individual and social system Changes in the culture and ethical tone at the top

C. Changes in the individual and social system

15. Values-based leadership can best be summed up as: Clearly articulating a vision for the organization Defining organizational values and work culture C. Clearly articulating and demonstrating one's values Using the Giving Voice to Values methodology to create a culture of compliance

C. Clearly articulating and demonstrating one's values

19. In establishing that the third party relied on the financial statements, one factor that works against plaintiffs' establishing such reliance is: Fraud did not exist Damages or loss suffered by the plaintiff would not have occurred regardless of whether the audited financial statements were misstated C. Damages or loss suffered by the plaintiff would have occurred regardless of whether the audited financial statements were misstated Negligence did not exist

C. Damages or loss suffered by the plaintiff would have occurred regardless of whether the audited financial statements were misstated

10. Which of the following is NOT addressed in the Diamond Foods case? Accounting for payments to walnut growers Matching revenues with the proper period Depreciation of almond trees Misleading the external auditors

C. Depreciation of almond trees

8. Refer to question 7. PwC's failure at the audit suggests the failure to create an ethical environment created through which of the following? Transformational leadership and moral intensity Moral persons and moral management C. Espoused values and management practices Espoused practices and management values

C. Espoused values and management practices

13. According to Mesmer-Magnus and Viswesvaran, organizational employees have three options to address an unsatisfactory situation faced within an organization. These include: Exit the organization, voice discontent, discuss matters with the board of directors Exit the organization, remain silent, report the matter to the external auditors C. Exit the organization, remain silent, voice discontent Exit the organization, blow the whistle, report the matter to the authorities

C. Exit the organization, remain silent, voice discontent

30. All of the following are in a position to commit fraud except for: A. Employees who have access to assets B. Top management who can override internal controls C. External auditors who audit the financial statements D. All of these are in a position to commit fraud

C. External auditors who audit the financial statements

3. Susie is an auditor with XYZ Audit firm. The Senior Audit member has told her that all fieldwork must be completed by the end of the week. Susie knows that corners have been cut and certain tests not completed due to the time constraints. The integrity of the firm could be compromised. What should Susie do? A. Do nothing. B. Talk with the chain of command of the client to see that her concerns are dealt with. C. Follow the chain of command of XYZ to see that her concerns are dealt with. D. Talk with a reporter from the Wall Street Journal.

C. Follow the chain of command of XYZ to see that her concerns are dealt with.

19. The primary accounting issue in the Wetherford International case is: Fraudulent recording of revenues on sales to customers Fraudulent use of company resources by top management for personal purposes C. Fraudulent inflation of earnings using deceptive income tax accounting Fraudulent inflation of inventory to reduce losses on the income statement

C. Fraudulent inflation of earnings using deceptive income tax accounting

19. The primary accounting issue in the Wetherford International case is: Fraudulent recording of revenues on sales to customers Fraudulent use of company resources by top management for personal purposes Fraudulent inflation of earnings using deceptive income tax accounting Fraudulent inflation of inventory to reduce losses on the income statement

C. Fraudulent inflation of earnings using deceptive income tax accounting

3. Barbara is working on the audit of a client with a group of five other staff-level employees. After the inventory audit was completed, Diane, a member of the group, asks to meet with the other employees. She points out that she now realizes a deficiency exists in the client's inventory system whereby a small number of items were double-counted. The amounts are relatively minor and the rest of the inventory observation went smoothly. Barbara suggests to Diane that they bring the matter to Jessica, the senior in charge of the engagement. Diane does not want to do it because she is the one responsible for the oversight. Three of the other four staff members agree with Diane. Haley is the only one, along with Barbara, who wants to inform Jessica. After an extended discussion of the matter, the group votes and decides not to inform Jessica. Still, Barbara does not feel right about it. She wonders: What if Jessica finds out another way? What if the deficiency is more serious than Diane has said? What if it portends other problems with the client? She decides to raise all these issues but is rebuked by the others who remind her that the team is already behind on its work and any additional audit procedures would increase the time spent on the audit and make them all look incompetent. They remind Barbara that Jessica is a stickler for keeping to the budget and any overages cannot be billed to the client. Barbara is reminded that "Jessica is a stickler for keeping to the budget." At what level is Jessica operating with this point of view that potentially impedes implementing proper audit procedures? A. Fairness to Others B. Law and Order C. Satisfying One's Own Interest D. Social Contract

C. Satisfying One's Own Interest

1. Barbara is working on the audit of a client with a group of five other staff-level employees. After the inventory audit was completed, Diane, a member of the group, asks to meet with the other employees. She points out that she now realizes a deficiency exists in the client's inventory system whereby a small number of items were double-counted. The amounts are relatively minor and the rest of the inventory observation went smoothly. Barbara suggests to Diane that they bring the matter to Jessica, the senior in charge of the engagement. Diane does not want to do it because she is the one responsible for the oversight. Three of the other four staff members agree with Diane. Haley is the only one, along with Barbara, who wants to inform Jessica. After an extended discussion of the matter, the group votes and decides not to inform Jessica. Still, Barbara does not feel right about it. She wonders: What if Jessica finds out another way? What if the deficiency is more serious than Diane has said? What if it portends other problems with the client? She decides to raise all these issues but is rebuked by the others who remind her that the team is already behind on its work and any additional audit procedures would increase the time spent on the audit and make them all look incompetent. They remind Barbara that Jessica is a stickler for keeping to the budget and any overages cannot be billed to the client. Diane is operating at which of the Kohlberg stages? A. Social Contract B. Fairness to Others C. Satisfying One's Own Needs D. Universal Ethical Principles

C. Satisfying One's Own Needs

34. The fraud at Tyco included each of the following acts except for: A. Benefits given to certain members of the board of directors to secure their silence about the fraud B. Corporate assets used by members of top management for personal purposes C. Setting up special-purpose-entities to keep debt off Tyco's books D. Related party transactions that were not adequately disclosed

C. Setting up special-purpose-entities to keep debt off Tyco's books

11. Which of the following is NOT one of the communications that should be made by external auditors to the audit committee? Accounting estimates Threats to auditor independence and related safeguards to mitigate those threats C. Significant deficiencies in audit procedures The nature and scope of significant assumptions

C. Significant deficiencies in audit procedures

55. Larry is the controller of ABC Industries and has a difference of opinion on an accounting matter with the CFO. Larry is told that the very survival of the company depends on his going along with the proposed accounting treatment that has been approved by the CEO and increases earnings 20 percent above what Larry believes it should be. If Larry goes along with the CFO, he is reasoning at what stage in Kohlberg's model: A. Stage 1 B. Stage 2 C. Stage 3 D. Stage 4

C. Stage 3

14. A client asks his accountant to ignore a mistake which overstated the accounts receivable account. The accountant decides that the accounts receivable account has to be corrected to state the correct amount based on the current accounting rules. Which stage of Kohlberg' Stages of Moral Development is the accounting reasoning? A. Stage 2 B. Stage 3 C. Stage 4 D. Stage 5

C. Stage 4

42. An ethical dilemma for professional accountants is when a conflict exists between each of the following except for: A. The auditor and client B. Different accounting members of management C. The CEO and board of directors D. All of these

C. The CEO and board of directors

17. The ethical conflict in A Team Player can be described as: A. There is no conflict; Barbara and Diane both identify the deficiency. B. The conflict is between Diane and the rest of the audit team on whether there is a deficiency. C. The conflict is between Barbara and Haley, and the rest of the team as to whether or not to take the deficiency to Jessica, the audit senior. D. The conflict is between Barbara and the rest of the team as to whether or not to take the deficiency to Jessica, the audit senior.

C. The conflict is between Barbara and Haley, and the rest of the team as to whether or not to take the deficiency to Jessica, the audit senior.

31. All of the following tend to be rationalizations for fraud except for: A. We need to protect the shareholders and keep the stock price high B. All companies use aggressive accounting techniques C. The employee will be fired unless s/he goes along with the fraud D. We are correcting a temporary problem that will not exist in the future

C. The employee will be fired unless s/he goes along with the fraud

5. All of the following tend to be rationalizations for fraud except: A. We need to protect the shareholders and keep the stock price high B. All companies use aggressive accounting techniques C. The employee will be fired unless s/he goes along with the fraud D. We are correcting a temporary problem that will not exist in the future

C. The employee will be fired unless s/he goes along with the fraud

5. All of the following tend to be rationalizations for fraud except: We need to protect the shareholders and keep the stock price high All companies use aggressive accounting techniques The employee will be fired unless s/he goes along with the fraud We are correcting a temporary problem that will not exist in the future

C. The employee will be fired unless s/he goes along with the fraud

3. The requirements of the Act of 1934 often center on the liability of auditors under Section 10 and rule 10b-5. The provisions make it unlawful for a CPA to: make an untrue statement of an immaterial fact. employ a device, scheme, or artifice to enhance the statements. C. engage in any act, practice, or course of business to commit fraud. make an immaterial false or misleading statement.

C. engage in any act, practice, or course of business to commit fraud.

13. In the Reauditing Financial Statements case, all of the following would be appropriate questions to ask a predecessor auditor except: why the predecessor auditor was fired whether there were any differences of opinion between management and the predecessor auditor whether they could obtain the predecessor auditor work papers whether there were any integrity concerns of top management

C. whether they could obtain the predecessor auditor work papers

13. In the Reauditing Financial Statements case, all of the following would be appropriate questions to ask a predecessor auditor except: why the predecessor auditor was fired whether there were any differences of opinion between management and the predecessor auditor C. whether they could obtain the predecessor auditor work papers whether there were any integrity concerns of top management

C. whether they could obtain the predecessor auditor workpapers

15. As a manager in her firm, Lucy concerns herself with the effectiveness of internal controls. Her main focus is how efficient and effective the company's internal controls are over time. Which component of internal control is Lucy engaging in? A. Risk assessment B. Control activities C. Control environment D. Monitoring

D. Monitoring

7. Jackson Daniels graduated from Lynchberg State College two years ago. Since graduating from college, he has worked in the accounting department of Lynchberg Manufacturing. Lynchberg is publicly-owned with an eleven-member board of directors. Daniels was recently asked to prepare a sales budget for the year 2019. He conducted a thorough analysis and came out with projected sales of 250,000 units of product. That represents a 25 percent increase over 2018. Daniels went to lunch with his best friend, Jonathan Walker, to celebrate the completion of his first solo job. Walker noticed Daniels seemed very distant. He asked what the matter was. Daniels stroked his chin, ran his hand through his bushy, black hair, took another drink of scotch, and looked straight into the eyes of his friend of 20 years. "Jon, I think I made a mistake with the budget." "What do you mean?" Walker answered. "You know how we developed a new process to manufacture soaking tanks to keep the ingredients fresh?" "Yes," Walker answered. "Well, I projected twice the level of sales for that product than will likely occur." "Are you sure?" Walker asked. "I checked my numbers. I'm sure. It was just a mistake on my part." Walker asked Daniels what he planned to do about it. "I think I should report it to Pete. He's the one who acted on the numbers to hire additional workers to produce the soaking tanks," Daniels said. "Wait a second, Jack. How do you know there won't be extra demand for the product? You and I both know demand is a tricky number to project, especially when a new product comes on the market. Why don't you sit back and wait to see what happens?" "Jon, I owe it to Pete to be honest. He was responsible for my hire." "You know Pete is always pressuring us to 'make the numbers.' Also, Pete has a zero tolerance for employees who make mistakes. That's why it's standard practice around here to sweep things under the rug. Besides, it's a one-time event—right?" "But what happens if I'm right and the sales numbers were wrong? What happens if the demand does not increase beyond what I now know to be the correct projected level?" "Well, you can tell Pete about it at that time. Why raise a red flag now when there may be no need?" As the lunch comes to a conclusion, Walker pulls Daniels aside and says, "Jack, this could mean your job. If I were in your position, I'd protect my own interests first." Jimmy (Pete) Beam is the vice president of production. Jackson Daniels had referred to him in his conversation with Jonathan Walker. After several days of reflection on his friend's comments, Daniels decided to approach Pete and tell him about the mistake. He knew there might be consequences, but his sense of right and wrong ruled the day. What transpired next surprised Daniels. "Come in, Jack" Pete said. "Thanks, Pete. I asked to see you on a sensitive matter." "I'm listening." "There is no easy way to say this so I'll just tell you the truth. I made a mistake in my sales budget. The projected increase of 25 percent was wrong. I checked my numbers and it should have been 12.5 percent. I'm deeply sorry, want to correct the error, and promise never to do it again." Pete's face became beet red. He said, "Jack, you know I hired 20 new people based on your budget." "Yes, I know." "That means ten have to be laid off or fired. They won't be happy and once word filters through the company, other employees may wonder if they are next." "I hadn't thought about it that way." "Well, you should have." Here's what we are going to do...and this is between you and me. Don't tell anyone about this conversation." "You mean not even tell my boss?" "No," Pete said. "JB can't know about it because he's all about correcting errors and moving on. Look, Jack, it's my reputation at stake here as well." Daniels hesitated but reluctantly agreed not to tell the controller, JB, his boss. The meeting ended with Daniels feeling sick to his stomach and guilty for not taking any action. Ethical Issues The ethical issues here are how to handle the situation of having made a mistake in a job; the short-term versus the long-term consequences; a certainty versus a possibility; the economic loss to the company versus possible job loss to self. The values involved are trustworthiness, respect, fairness, and caring. Ask students how they would want a doctor or pharmacy to handle a mistake in supplying the wrong medicine to them. Ask students how a professor should handle an error in grading or calculations of grades. What is the likely result of Pete's "zero-tolerance of employees making mistakes"? A. Fewer mistakes by employees. B. Implementation of the Ethical Decision Making Model. C. No need for rationalizing after the fact. D. More mistakes are likely to be made.

D. More mistakes are likely to be made.

4. James Rest's model of ethical action involves four components inherent to the ethical decision-making process. Which of the following relates to a person's moral judgment of what ought to be done? A. Interpreting a situation as a moral dilemma B. Willingness to place ethical values ahead of non-ethical values C. Intention to act ethically aligning to his values D. Outcome of one's prescriptive reasoning

D. Outcome of one's prescriptive reasoning

In Heinrich Müller: Big-Four Whistleblower, Müller had an ethical dilemma because: Confidential tax documents demonstrate the firm was engaged in illegal firm-arranged tax avoidance deals Confidential tax documents indicate the client violated the law by taking advantage of tax advantaged investment His supervisor ordered him to commit tax fraud His supervisor was engaged in tax fraud

Confidential tax documents demonstrate the firm was engaged in illegal firm-arranged tax avoidance deals

When an auditor acts so carelessly in the application of professional standards that it implies a reckless disregard for the standards of due care is referred to as: Scienter Fraud Constructive fraud Negligence

Constructive fraud

10. Which of the following is NOT an example of a conflict situation for CPAs in business that may lead to subordination of judgment? A. Making or permitting or directing another party to make, materially false and misleading entries in an entity's financial statements or records B. Failing to correct the entity's financial statements or records that are materially false and misleading when the CPA has the authority to record the entries C. Signing, or permitting or directing another to sign, a document containing materially false and misleading information. D. Preparing the financial statements and auditing the same work

D. Preparing the financial statements and auditing the same work

35. Members of the audit committee are responsible for each of the following except for: A. Considering risks identified by the external auditor B. Assessing whether management has set the appropriate ethical tone for the organization C. Discussing with the external auditors financial reporting matters of concern D. Rendering an audit opinion after examining the entity's financial statements and internal controls

D. Rendering an audit opinion after examining the entity's financial statements and internal controls

20. EY partner Pamela Hartford violated Independence Rules when: A. She prepared financial statements and provided attest services for her audit client B. She identified the firm's protective covenants are reasonable in scope. C. She refused to maintain adequate records and documents. D. She maintained a personal relationship with a member of company management.

D. She maintained a personal relationship with a member of company management.

8. Refer to Question 5. The applicable section to Helen's situation in the conceptual framework rules for CPAs in business would be which of the following? A. 110.010 B. 1.130.020 C. 1.000.020 D. 2.000.010

D. 2.000.010

29. Each of the following represents a pressure that might lead to fraud except for: A. Desire to maximize the value of stock options B. Budget pressures C. Meet financial analysts' earnings expectations D. Ability to carry out the fraud

D. Ability to carry out the fraud

13. The PCAOB rules prohibit auditors from: A. Providing certain aggressive tax shelters to their public company audit clients B. Providing tax services to members of the audit client's management who serve in financial reporting oversight roles C. Providing tax preparation and planning services for public company executives D. All of the above

D. All of the above

9. Ethical conflicts for CPAs in business can occur when: A. Obstacles exist to complying with professional and legal standards B. Relationships exist with vendors C. Threats from higher levels of management create constraints to providing accurate and reliable financial statements D. All of the above

D. All of the above

20. Ethical leadership failure can be caused by: Lines of communication are blurred Ignoring ethical boundaries within a company Organizational factors promote unethical action D. All of the above

D. All of the above Lines of communication are blurred Ignoring ethical boundaries within a company Organizational factors promote unethical action

7. A "particularized" allegation requires establishing: Strong circumstantial evidence of conscious misbehavior Strong circumstantial evidence of recklessness Facts showing the defendant had both motive and opportunity to commit securities fraud D. All of the above

D. All of the above Strong circumstantial evidence of conscious misbehavior Strong circumstantial evidence of recklessness Facts showing the defendant had both motive and opportunity to commit securities fraud

7. A "particularized" allegation requires establishing: Strong circumstantial evidence of conscious misbehavior Strong circumstantial evidence of recklessness Facts showing the defendant had both motive and opportunity to commit securities fraud D. All of the above.

D. All of the above. Strong circumstantial evidence of conscious misbehavior Strong circumstantial evidence of recklessness Facts showing the defendant had both motive and opportunity to commit securities fraud

61. The Audit Client Consideration case deals with issues related to: A. Acceptance of new clients B. Issues that arise between the predecessor audit firm and the client C. Going concern issues raised by previous auditors D. All of these

D. All of these

63. The First Community Bank case contained each of the following deficiencies except for: A. The loan loss reserves of the bank were understated B. The level of impairment of existing bank loans was material C. The collateral for loans was insufficient D. All of these

D. All of these

7. Typically, when a going concern issue exists the auditor should: A. Issue an unmodified opinion with an emphasis-of-matter paragraph B. Explain the reasons for the going concern issue C. Indicate where management's plans to deal with the going concern are addressed D. All of these

D. All of these

23. The Private Securities Litigation Reform Act imposes additional requirements on public companies reporting to the SEC and their auditors when: A. The illegal act has a material effect on the financial statements B. Senior management and the board have not acted properly to correct for the act C. The failure to correct for the action is reasonably expected to warrant a departure from the standard audit report D. All of these are additional requirements

D. All of these are additional requirements

15. [The following information applies to the questions displayed below.] Gloria Hernandez is the controller of a public company. She just completed a meeting with her superior, John Harrison, who is the CFO of the company. Harrison tried to convince Hernandez to go along with his proposal to combine 12 expenditures for repair and maintenance of a plant asset into one amount ($1 million). Each of the expenditures is less than $100,000, the cutoff point for capitalizing expenditures as an asset and depreciating it over the useful life. Hernandez asked for time to think about the matter. As the controller and chief accounting officer of the company, Hernandez knows it's her responsibility to decide how to record the expenditures. She knows that the $1 million amount is material to earnings and the rules in accounting require expensing of each individual item, not capitalization. However, she is under a great deal of pressure to go along with capitalization to boost earnings and meet financial analysts' earnings expectations, and provide for a bonus to top management including herself. Her job may be at stake, and she doesn't want to disappoint her boss. Assume both Hernandez and Harrison hold the CPA and CMA designations. Suppose Gloria "goes along to get along" and capitalizes the one million in expenses. Then, the external auditors subsequently find the incorrect transaction. As a CPA, Gloria could be subject to which of the following? A. License suspension B. Loss of license C. Fines D. All of these choices are correct

D. All of these choices are correct

2. Barbara is working on the audit of a client with a group of five other staff-level employees. After the inventory audit was completed, Diane, a member of the group, asks to meet with the other employees. She points out that she now realizes a deficiency exists in the client's inventory system whereby a small number of items were double counted. The amounts are relatively minor and the rest of the inventory observation went smoothly. Barbara suggests to Diane that they bring the matter to Jessica, the senior in charge of the engagement. Diane does not want to do it because she is the one responsible for the oversight. Three of the other four staff members agree with Diane. Haley is the only one, along with Barbara, who wants to inform Jessica. After an extended discussion of the matter, the group votes and decides not to inform Jessica. Still, Barbara does not feel right about it. She wonders: What if Jessica finds out another way? What if the deficiency is more serious than Diane has said? What if it portends other problems with the client? She decides to raise all these issues but is rebuked by the others who remind her that the team is already behind on its work and any additional audit procedures would increase the time spent on the audit and make them all look incompetent. They remind Barbara that Jessica is a stickler for keeping to the budget and any overages cannot be billed to the client. Barbara is responding to which of the Kohlberg stages? A. Social Contract B. Fairness to Others C. Avoidance of Punishment D. Both Social Contract and Fairness to Others

D. Both Social Contract and Fairness to Others

8. Jackson Daniels graduated from Lynchberg State College two years ago. Since graduating from college, he has worked in the accounting department of Lynchberg Manufacturing. Lynchberg is publicly-owned with an eleven-member board of directors. Daniels was recently asked to prepare a sales budget for the year 2019. He conducted a thorough analysis and came out with projected sales of 250,000 units of product. That represents a 25 percent increase over 2018. Daniels went to lunch with his best friend, Jonathan Walker, to celebrate the completion of his first solo job. Walker noticed Daniels seemed very distant. He asked what the matter was. Daniels stroked his chin, ran his hand through his bushy, black hair, took another drink of scotch, and looked straight into the eyes of his friend of 20 years. "Jon, I think I made a mistake with the budget." "What do you mean?" Walker answered. "You know how we developed a new process to manufacture soaking tanks to keep the ingredients fresh?" "Yes," Walker answered. "Well, I projected twice the level of sales for that product than will likely occur." "Are you sure?" Walker asked. "I checked my numbers. I'm sure. It was just a mistake on my part." Walker asked Daniels what he planned to do about it. "I think I should report it to Pete. He's the one who acted on the numbers to hire additional workers to produce the soaking tanks," Daniels said. "Wait a second, Jack. How do you know there won't be extra demand for the product? You and I both know demand is a tricky number to project, especially when a new product comes on the market. Why don't you sit back and wait to see what happens?" "Jon, I owe it to Pete to be honest. He was responsible for my hire." "You know Pete is always pressuring us to 'make the numbers.' Also, Pete has a zero-tolerance for employees who make mistakes. That's why it's standard practice around here to sweep things under the rug. Besides, it's a one-time event—right?" "But what happens if I'm right and the sales numbers were wrong? What happens if the demand does not increase beyond what I now know to be the correct projected level?" "Well, you can tell Pete about it at that time. Why raise a red flag now when there may be no need?" As the lunch comes to a conclusion, Walker pulls Daniels aside and says, "Jack, this could mean your job. If I were in your position, I'd protect my own interests first." Jimmy (Pete) Beam is the vice president of production. Jackson Daniels had referred to him in his conversation with Jonathan Walker. After several days of reflection on his friend's comments, Daniels decided to approach Pete and tell him about the mistake. He knew there might be consequences, but his sense of right and wrong ruled the day. What transpired next surprised Daniels. "Come in, Jack" Pete said. "Thanks, Pete. I asked to see you on a sensitive matter." "I'm listening." "There is no easy way to say this so I'll just tell you the truth. I made a mistake in my sales budget. The projected increase of 25 percent was wrong. I checked my numbers and it should have been 12.5 percent. I'm deeply sorry, want to correct the error, and promise never to do it again." Pete's face became beet red. He said, "Jack, you know I hired 20 new people based on your budget." "Yes, I know." "That means ten have to be laid off or fired. They won't be happy and once word filters through the company, other employees may wonder if they are next." "I hadn't thought about it that way." "Well, you should have." Here's what we are going to do...and this is between you and me. Don't tell anyone about this conversation." "You mean not even tell my boss?" "No," Pete said. "JB can't know about it because he's all about correcting errors and moving on. Look, Jack, it's my reputation at stake here as well." Daniels hesitated but reluctantly agreed not to tell the controller, JB, his boss. The meeting ended with Daniels feeling sick to his stomach and guilty for not taking any action. Ethical Issues The ethical issues here are how to handle the situation of having made a mistake in a job; the short-term versus the long-term consequences; a certainty versus a possibility; the economic loss to the company versus possible job loss to self. The values involved are trustworthiness, respect, fairness, and caring. Ask students how they would want a doctor or pharmacy to handle a mistake in supplying the wrong medicine to them. Ask students how a professor should handle an error in grading or calculations of grades. Jonathan Walker is probably failing which of the Rest Stages? A. Sensitivity B. Judgement C. Motivation D. Character

D. Character

22. An auditor concludes that a client has committed an illegal act that has not been properly accounted for or disclosed. The auditor should withdraw from the engagement if the A. Auditor is precluded from obtaining sufficient competent evidence about the illegal act B. Illegal act has an effect on the financial statements that is both material and direct C. Auditor cannot reasonably estimate the effect of the illegal act on the financial statements D. Client refuses to take the remedial steps deemed necessary by the auditors

D. Client refuses to take the remedial steps deemed necessary by the auditors

5. "We can't recognize revenue immediately, Paul, since we agreed to buy similar software from DSS," Sarah Young stated. "That's ridiculous," Paul Henley replied. "Get your head out of the sand, Sarah, before it's too late." Sarah Young is the controller for Solutions Network, Inc., a publicly owned company headquartered in Sunnyvale, California. Solutions Network has an audit committee with three members of the board of directors that are independent of management. Sarah is meeting with Paul Henley, the CFO of the company on January 7, 2019, to discuss the accounting for a software systems transaction with Data Systems Solutions (DSS) prior to the company's audit for the year ended December 31, 2018. Both Young and Henley are CPAs. Young has excluded the amount in contention from revenue and net income for 2018, but Henley wants the amount to be included in the 2018 results. Without it, Solutions Network would not meet earnings expectations. Henley tells Young that the order came from the top to record the revenue on December 28, 2018, the day the transaction with DSS was finalized. Young points out that Solutions Network ordered essentially the same software from DSS to be shipped and delivered early in 2019. Therefore, according to Young, Solutions Network should delay revenue recognition on this "swap" transaction until that time. Henley argues against Sarah's position, stating that title had passed from the company to DSS on December 31, 2018, when the software product was shipped FOB shipping point. Background Solutions Network, Inc., became a publicly owned company on March 15, 2014, following a successful initial public offering (IPO). Solutions Network built up a loyal clientele in the three years prior to the IPO by establishing close working relationships with technology leaders, including IBM, Apple, and Dell Computer. The company designs and engineers systems software to function seamlessly with minimal user interface. There are several companies that provide similar products and consulting services, and DSS is one. However, DSS operates in a larger market providing IT services management products that coordinate the entire business infrastructure into a single system. Solutions Network grew very rapidly during the past five years, although sales slowed down a bit in 2018. The revenue and earnings streams during those years are as follows: Year Revenues (millions) Net Income (millions) 2013$ 148.0 $ 11.9 2014 175.8 13.2 2015 202.2 15.0 2016 229.8 16.1 2017 267.5 17.3 Young prepared the following estimates for 2018: Year Revenues (millions) Net Income (millions) 2018 (Projected)$ 262.5 $ 16.8 The Transaction On December 28, 2018, Solutions Network offered to sell its Internet infrastructure software to DSS for its internal use. In return, DSS agreed to ship similar software 30 days later to Solutions Network for that company's internal use. The companies had conducted several transactions with each other during the previous five years, and while DSS initially balked at the transaction because it provided no value added to the company, it did not want to upset one of the fastest-growing software companies in the industry. Moreover, Solutions Network might be able to help identify future customers for DSS's IT service management products. The $15 million of revenue would increase net income by $1.0 million. For Solutions Network, the revenue from the transaction would be enough to enable the company to meet targeted goals, and the higher level of income would provide extra bonus money at year-end for Young, Henley, and Ed Fralen, the CEO. Accounting Considerations In her discussions with Henley, Young points out that the auditors will arrive on January 15, 2019; therefore, the company should be certain of the appropriateness of its accounting before that time. After all, says Young, "the auditors rely on us to record transactions properly as part of their audit expectations." At this point Henley reacts angrily and tells Young she can pack her bags and go if she doesn't support the company in its revenue recognition of the DSS transaction. Young is taken aback. Henley seems unusually agitated. Perhaps he was under a lot more pressure to "meet the numbers" than she anticipated. To defuse the matter, Young makes an excuse to end the meeting prematurely and asks if they could meet on Monday morning, after the weekend. Henley agrees. Over the weekend, Sarah Young calls her best friend, Shannon McCollough, for advice. Shannon is a controller at another company and Sarah would often commensurate with Shannon over their mutual experiences. Shannon suggests that Sarah should explain to Paul Henley exactly what her ethical obligations are in the matter. Shannon thinks it might make a difference because Paul is a CPA as well. After the discussion with Shannon, Sarah considers whether she is being too firm in her position. On the one hand, she knows that regardless of the passage of title to DSS on December 31, 2018, the transaction is linked to Solutions Network's agreement to take the DSS product 30 days later. While she doesn't anticipate any problems in that regard, Sarah is uncomfortable with the recording of revenue on December 31 because DSS did not complete its portion of the agreement by that date. She has her doubts whether the auditors would sanction the accounting treatment. On the other hand, Sarah is also concerned about the fact that another transaction occurred during the previous year that she questioned but, in the end, went along with Paul's accounting for this transaction. On December 28, 2017, Solutions Network sold a major system for $20 million to Laramie Systems but executed a side agreement with Laramie on that date which gave Laramie the right to return the product for any reason within 30 days. Even though Solutions Network recorded the revenue in 2017 and Sarah felt uneasy about it, she did not object because Laramie did not return the product; her acceptance was motivated by the delay in the external audit until after the 30-day period had expired. Now, however, Sarah is concerned that a pattern may be developing. Solutions Network is attempting to manage earnings. Which features of earnings management is being employed by Solutions? Alter numbers not yet in the financial records by using discretionary accruals. Create or structure transactions for the purpose of altering the numbers. Alter numbers already in the financial records by using discretionary accruals. Alter numbers not yet in the financial records by using discretionary accruals and create or structure transactions for the purpose of altering the numbers. D. Create or structure transactions for the purpose of altering the numbers and alter numbers already in the financial records by using discretionary accruals.

D. Create or structure transactions for the purpose of altering the numbers and alter numbers already in the financial records by using discretionary accruals.

In establishing that the third party relied on the financial statements, one factor that works against plaintiffs' establishing such reliance is:

D. Damages or loss suffered by the plaintiff would have occurred regardless of whether the audited financial statements were misstated

19. A danger of situational ethics is that it can be used to rationalize a wrong-doing. Such rationalizations may be seen in all of the following examples except: A. Cheating at the University of North Carolina B. Hiding Anne Frank's family to escape Nazi terror. C. Betty Vinson's actions at World Com D. David Walker's actions at the Government Accountability Office

D. David Walker's actions at the Government Accountability Office

14. Which of the following is NOT one of the levers Larry Davis might use to convince Paul Jones about the rightness of his point of view in the Ace Manufacturing case discussed in the chapter? A. Davis can ask Paul Jones for supporting documentation to back up the coding of expenses to different accounts B. Davis can try to convince Paul that his actions are harmful to the company and potentially very embarrassing for his dad C. Davis can threaten to go to all the owners if Paul doesn't admit the mistake and take corrective action D. Davis can threaten to go to the SEC to protect shareholder interests if Paul agrees to pay back the amounts taken out of the company and correct the accounting

D. Davis can threaten to go to the SEC to protect shareholder interests if Paul agrees to pay back the amounts taken out of the company and correct the accounting

10. Refer to question 9. Dell used "cookie-jar reserves" to inflate income and "make the numbers" Wall Street wanted to see. Such reserves are an example of the use of what? Discretionary expenses Discretionary liabilities Discretionary revenue D. Discretionary accruals

D. Discretionary accruals

40. PCAOB Auditing Standard No.4 requires that the external auditors should take each of the following steps when reporting on whether a material weakness still exists in the internal controls except for: A. Evaluate whether management has accepted responsibility for the effectiveness of internal control B. Evaluate whether management asserts whether the controls are effective in correcting the material weakness C. Evaluate whether management has obtained sufficient evidence to support its assessment D. Evaluate whether management has conducted an audit of internal controls

D. Evaluate whether management has conducted an audit of internal controls

19. One of the key questions raised by the facts of the Friars For Life case is: Should the client be allowed to determine what appears in the financial statements? Should audit firms develop tax shelter arrangements for wealthy clients? Should audit firms discuss their audit opinions with clients? D. Should the client be able to record revenues from future scheduled transactions?

D. Should the client be able to record revenues from future scheduled transactions?

11. [The following information applies to the questions displayed below.] Jose and Emily work as auditors for the state of Texas. They have been assigned to the audit of the Lone Star School District. There have been some problems with audit documentation for the travel and entertainment reimbursement claims of the manager of the school district. The manager knows about the concerns of Jose and Emily, and he approaches them about the matter. The following conversation takes place: Manager: Listen, I've requested the documentation you asked for, but the hotel says it's no longer in its system. Jose: Don't you have the credit card receipt or credit card statement?Manager: I paid cash. Jose: What about a copy of the hotel bill? Manager: I threw it out. Emily: That's a problem. We have to document all your travel and entertainment expenses for the city manager's office. Manager: Well, I can't produce documents that the hotel can't find. What do you want me to do? If Jose and Emily decide to report this incident to the school, they would be operating under which Pillar of Character? A. Caring B. Respect C. Responsibility D. Fairness

D. Fairness

2. In the "Heinz and the Drug" case described in the chapter, if Heinz was reasoning at stage 5 he might decide to steal the drug based on which of the following reasoning? A. Heinz should steal the medicine, because he will be much happier if he saves his wife, even if he will have to serve a prison sentence. B. Heinz should steal the medicine, because his wife expects it. C. Heinz should steal the medicine, because the law prohibits exceptions. D. Heinz should steal the medicine, because everyone has a right to live, regardless of the law.

D. Heinz should steal the medicine, because everyone has a right to live, regardless of the law.

48. Which of the following is not a consideration in determining a measure of materiality? A. Risks of material misstatements due to fraud B. Quantitative assessment of the importance of the difference of opinion with client management on an accounting issues C. Qualitative assessment of the importance of the difference of opinion with client management on an accounting issues D. Importance of audit committee in the organization

D. Importance of audit committee in the organization

53. Which of the following is not an element of COSO Enterprise Risk Management? A. Enhancing risk response decisions B. Reducing operating surprises and losses C. Seizing opportunities D. Improving deployment of information technology

D. Improving deployment of information technology

9. Which of the following is not an element of COSO Enterprise Risk Management? Enhancing risk response decisions Reducing operating surprises and losses Identification of risks and opportunities affecting achievement of an entity's objectives Improving deployment of information technology

D. Improving deployment of information technology

9. Which of the following is not an element of COSO Enterprise Risk Management? Multiple Choice Enhancing risk response decisions Reducing operating surprises and losses Identification of risks and opportunities affecting achievement of an entity's objectives D. Improving deployment of information technology

D. Improving deployment of information technology

19. Which of the following is not a component of internal control? A. Control environment B. Information and communication systems C. Monitoring of controls D. Independence of the audit committee

D. Independence of the audit committee

14. [The following information applies to the questions displayed below.] Gloria Hernandez is the controller of a public company. She just completed a meeting with her superior, John Harrison, who is the CFO of the company. Harrison tried to convince Hernandez to go along with his proposal to combine 12 expenditures for repair and maintenance of a plant asset into one amount ($1 million). Each of the expenditures is less than $100,000, the cutoff point for capitalizing expenditures as an asset and depreciating it over the useful life. Hernandez asked for time to think about the matter. As the controller and chief accounting officer of the company, Hernandez knows it's her responsibility to decide how to record the expenditures. She knows that the $1 million amount is material to earnings and the rules in accounting require expensing of each individual item, not capitalization. However, she is under a great deal of pressure to go along with capitalization to boost earnings and meet financial analysts' earnings expectations, and provide for a bonus to top management including herself. Her job may be at stake, and she doesn't want to disappoint her boss. Assume both Hernandez and Harrison hold the CPA and CMA designations. As a Certified Management Accountant (CMA), which standards would apply in this situation? A. Confidentiality B. Integrity C. Credibility D. Integrity and credibility

D. Integrity and Credibility

18. The most important duty of public accounting is to the: A. Securities Exchange Commission B. Current stockholders C. Management D. Investing public

D. Investing public

5. Followership, servant leaders, and authenticity all share the following common characteristic: Values-based leadership Sensitivity to ethical dilemmas Adherence to organizational norms even if it means compromising one's values D. Leader ethicality

D. Leader ethicality

17. Ethical leadership competence refers to: Leaders ability to deal with moral problems in an autonomous way Leaders ability to deal with moral problems in an automatic way Leaders ability to set the tone of the organization as an ethical one D. Leaders ability to develop problem-solving and decision-making skills

D. Leaders ability to develop problem-solving and decision-making skills

9. Steve is in charge of accounting for the purchase of equipment at Cal Works, Inc. The company has a policy that all expenditures greater than $1,000 (1% of total expenditures) have to be capitalized; less than $1,000 expensed. Steve is under pressure to report high earnings. He takes one $600 and $900 expenditure, adds them together, and records a capital expenditure for $1,500. Which of the following reasons and rationalizations might Steve use for his action: A. One-time request B. Standard Practice C. Representational faithfulness D. Materiality

D. Materiality

8. Which of the following is the most likely reason for an auditor to issue a modified opinion with a qualification? A. Inability to gather any sufficient relevant information to form the basis for the opinion B. Misstatements that are material and pervasive C. Going concern issue D. Misstatements that are material but not pervasive

D. Misstatements that are material but not pervasive

1. [The following information applies to the questions displayed below.] The audit of KBC Solutions by Carlson and Smith, CPAs, was scheduled to end on February 28, 2019. However, Rick Carlson was uncertain whether it could happen. As the review partner, he had just completed going over the work paper files of the senior auditor in charge of the engagement, Grace Sloan, and had way too many questions to wrap things up by the end of the week. Rick called Grace into his office and asked her about some questionable judgments she had made. He hoped her explanations would be satisfactory and he could move on with completing the audit. Why did you approve the accounting for new acquisitions of plant and equipment that were not supported by adequate underlying documentation? Why did you accept the client's determinations of accrued expenses rather than make your own independent judgments? How can you justify relying on last year's work papers to determine the proper allowance for uncollectibles one year later? To say Grace was stressed out would be an understatement. This was her first engagement as a senior and she wondered whether it would be her last. Grace knew she had to make a convincing case for her judgments or suffer the consequences. She responded to each point as follows. The client had problems with their systems and had to contact the vendor for a duplicate copy of the relevant invoices. She expects the copy within two days. The client seemed to have a reasonable basis for those judgments so she saw no reason to delay completion of the audit over the accrued expenses. Although the confirmation rate on the receivables was slightly below expected norms, there was no reason not to accept the client's explanation for those not confirmed as being correct in amount and due date. Grace knew her answers would not completely satisfy Rick. She did, however, believe there were extenuating circumstances she felt compelled to explain even though it might reflect negatively on her leadership abilities. She explained that the audit team pressured her to let certain matters go because they were behind schedule in completion of the audit. She was convinced by the majority to trust the client on outstanding issues, which included the three raised by Rick. Rick was not very happy with the explanation. He wondered about the professional judgments exercised by Grace and what her future with the firm should be. Grace Sloan explained that the audit team pressured her to let certain matters go. By doing so, Grace succumbed to groupthink. Groupthink has a home in which of the following? A. Stage 3 of the Rest model B. None of these are correct C. Stage 3 of the Thorne model D. Stage 3 of the Kohlberg model

D. Stage 3 of the Kohlberg model

8. Rosie is the external auditor of Texas Two Steps, a privately-owned dance company in Texas. Rosie believes the owner of the company is skimming cash off the top. She approaches the owner who explains that the money will be replaced in the following month after he refinances his house. Rosie accepts the owner's explanation but reclassifies the expenditure as a receivable of the company from the owner. Rosie's reasoning best reflects: A. Stage 1 B. Stage 2 C. Stage 3 D. Stage 4

D. Stage 4

Which of the following is not an element of the auditor's responsibility of the auditor's report? A. States the auditor's responsibility to express an opinion on the financial statements B. States the audit provides reasonable assurance that the statements are free of material misstatement C. States audit provides reasonable basis for the opinion D. States the audit evaluates the overall financial statement presentation

D. States the audit evaluates the overall financial statement presentation

11. Milton Manufacturing Company produces a variety of textiles for distribution to wholesale manufacturers of clothing products. The company's primary operations are located in Long Island City, New York, with branch factories and warehouses in several surrounding cities. Milton Manufacturing is a closely held company, and Irv Milton is the president. He started the business in 2008, and it grew in revenue from $500,000 to $5 million in 10 years. However, the revenues declined to $4.5 million in 2018. Net cash flows from all activities also were declining. The company was concerned because it planned to borrow $20 million from the credit markets in the fourth quarter of 2019. Irv Milton met with Ann Plotkin, the chief accounting officer (and also a CPA), on January 15, 2019, to discuss a proposal by Plotkin to control cash outflows. He was not overly concerned about the recent decline in net cash flows from operating activities because these amounts were expected to increase in 2019 as a result of projected higher levels of revenue and cash collections. However, that was not Plotkin's view. Plotkin knew that if overall negative capital expenditures continued to increase at the rate of 40 percent per year, Milton Manufacturing probably would not be able to borrow the $20 million. Therefore, she suggested establishing a new policy to be instituted on a temporary basis. Each plant's capital expenditures for 2019 for investing activities would be limited to the level of those capital expenditures in 2017, the last year of an overall positive cash flow. Operating activity cash flows had no such restrictions. Irv Milton pointedly asked Plotkin about the possible negative effects of such a policy, but in the end, he was convinced that it was necessary to initiate the policy immediately to stem the tide of increases in capital expenditures. A summary of cash flows appears in Exhibit 1. . EXHIBIT 1MILTON MANUFACTURING COMPANYSummary of Cash FlowsFor the Years Ended December 31, 2018 and 2017 (000 omitted) December 31, 2018December 31, 2017Cash Flows from Operating ActivitiesNet income $372 $542 Adjustments to reconcile net income to net cash provided by operating activities (2,350) (2,383) Net cash provided by operating activities $(1,978) $(1,841) Cash Flows from Investing ActivitiesCapital expenditures $(1,420) $(1,918) Other investing inflows (outflows) 176 84 Net cash used in investing activities $(1,244) $(1,834) Cash Flows from Financing ActivitiesNet cash provided (used in) financing activities $168 $1,476 Increase (decrease) in cash and cash equivalents $(3,054) $(2,199) Cash and cash equivalents—beginning of the year $3,191 $5,390 Cash and cash equivalents—end of the year $147 $3,191 Sammie Markowicz is the plant manager at the headquarters in Long Island City. He was informed of the new capital expenditure policy by Ira Sugofsky, the vice president for operations. Markowicz told Sugofsky that the new policy could negatively affect plant operations because certain machinery and equipment, essential to the production process, had been breaking down more frequently during the past two years. The problem was primarily with the motors. New and better models with more efficient motors had been developed by an overseas supplier. These were expected to be available by April 2019. Markowicz planned to order 1,000 of these new motors for the Long Island City operation, and he expected that other plant managers would do the same. Sugofsky told Markowicz to delay the acquisition of new motors for one year, after which time the restrictive capital expenditure policy would be lifted. Markowicz reluctantly agreed. Milton Manufacturing operated profitably during the first six months of 2019. Net cash inflows from operating activities exceeded outflows by $1,250,000 during this time period. It was the first time in two years that there was a positive cash flow from operating activities. Production operations accelerated during the third quarter as a result of increased demand for Milton's textiles. An aggressive advertising campaign initiated in late 2018 seemed to bear fruit for the company. Unfortunately, the increased level of production put pressure on the machines, and the degree of breakdown was increasing. A big problem was that the motors wore out prematurely. Markowicz was concerned about the machine breakdown and increasing delays in meeting customer demands for the shipment of the textile products. He met with the other branch plant managers, who complained bitterly to him about not being able to spend the money to acquire new motors. Markowicz was very sensitive to their needs. He informed them that the company's regular supplier had recently announced a 25 percent price increase for the motors. Other suppliers followed suit, and Markowicz saw no choice but to buy the motors from the overseas supplier. That supplier's price was lower, and the quality of the motors would significantly enhance the machines' operating efficiency. However, the company's restrictions on capital expenditures stood in the way of making the purchase. Markowicz approached Sugofsky and told him about the machine breakdowns and the concerns of other plant managers. Sugofsky seemed indifferent but reminded Markowicz of the capital expenditure restrictions in place and that the Long Island City plant was committed to keeping expenditures at the same level as it had in 2017. Markowicz argued that he was faced with an unusual situation and he had to act now. Sugofsky hurriedly left, but not before he said to Markowicz, "You and I may not agree with it, but a policy is a policy." Markowicz reflected on his obligations to Milton Manufacturing. He was conflicted because he viewed his primary responsibility and that of the other plant managers to ensure that the production process operated smoothly. The last thing the workers needed right now was a stoppage of production because of machine failure. At this time, Markowicz learned of a 30-day promotional price offered by the overseas supplier to gain new customers by lowering the price for all motors by 25 percent. Coupled with the 25 percent increase in price by the company's supplier, Markowicz knew he could save the company $1,500, or 50 percent of cost, on each motor purchased from the overseas supplier. After carefully considering the implications of his intended action, Markowicz contacted the other plant managers and informed them that while they were not obligated to follow his lead because of the capital expenditure policy, he planned to purchase 1,000 motors from the overseas supplier for the headquarters plant in Long Island City. Markowicz made the purchase at the beginning of the fourth quarter of 2019 without informing Sugofsky. He convinced the plant accountant to record the $1.5 million expenditure as an operating (not capital) expenditure because he knew that the higher level of operating cash inflows resulting from increased revenues would mask the effect of his expenditure. In fact, Markowicz was proud that he had "saved" the company $1.5 million, and he did what was necessary to ensure that the Long Island City plant continued to operate. The acquisitions by Markowicz and the other plant managers enabled the company to keep up with the growing demand for textiles, and the company finished the year with record high levels of profit and net cash inflows from all activities. Markowicz was lauded by his team for his leadership. The company successfully executed a loan agreement with Second Bankers Hours & Trust Co. The $20 million borrowed was received on October 3, 2019. During the course of an internal audit of the 2019 financial statements, Beverly Wald, the chief internal auditor (and also a CPA), discovered that there was an unusually high number of motors in inventory. A complete check of the inventory determined that $1 million worth of motors remained on hand. Wald reported her findings to Ann Plotkin, and together they went to see Irv Milton. After being informed of the situation, Milton called in Sugofsky. When Wald told him about her findings, Sugofsky's face turned beet red. He told Wald that he had instructed Markowicz not to make the purchase. He also inquired about the accounting since Wald had said it was wrong. Wald explained to Sugofsky that the $1 million should be accounted for as inventory, not as an operating cash outflow: "What we do in this case is transfer the motors out of inventory and into the machinery account once they are placed into operation because, according to the documentation, the motors added significant value to the asset." Sugofsky had a perplexed look on his face. Finally, Irv Milton took control of the accounting lesson by asking, "What's the difference? Isn't the main issue that Markowicz did not follow company policy?" The three officers in the room shook their heads simultaneously, perhaps in gratitude for being saved the additional lecturing. Milton then said he wanted Wald and Plotkin to discuss the alternatives on how best to deal with the Markowicz situation and present the choices to him in one week.Use the Integrated Ethical Decision-Making Process to guide you in answering the following: A. Instrumental Virtue B. Rest's idea of character C. Kohlberg's idea of Law and Order D. The GVV idea of Locus of Loyalty

D. The GVV idea os Locus of Loyalty

7. Refer to Question 5. In the event that Carl and the CEO won't change their position, Helen should probably take her concerns to which of the following? A. The SEC B. The external auditors C. The PCAOB D. The audit committee

D. The audit committee

2. The Credit Alliance v. Arthur Andersen & Co. case established three tests that must be satisfied for holding auditors liable for negligence to third parties. All of the following are tests described except: Knowledge by the accountant that the financial statements are to be used for a particular purpose The intention of the third party to rely on those statements Some action by the accountant linking him or her to the third party that provides evidence of the accountant's understanding of intended reliance D. The identity of the third party must be directly known to the auditor

D. The identity of the third party must be directly known to the auditor

The Credit Alliance v. Arthur Andersen & Co. case established three tests that must be satisfied for holding auditors liable for negligence to third parties. All of the following are tests described except:

D. The identity of the third party must be directly known to the auditor

18. What is the ethical issue in the Rite Aid Inventory Surplus Fraud case? A. The surplus inventory sales and kickback involved collusion between two officers of the company. When Foster wanted to stop the scheme, he was blackmailed in continuing the fraud. B. Rite-Aid had a comprehensive corporate governance system that complied with all the requirements of Sarbanes-Oxley. C. The internal auditor found and blew the whistle on the surplus inventory sales and kickback cover-up. D. Vice Presidents of the company were involved in a material, nine year surplus inventory sales and kickback scheme.

D. Vice Presidents of the company were involved in a material, nine year surplus inventory sales and kickback scheme.

18. The auditors' determination of whether the financial statements "present fairly" is based on: A. Whether the users are able to assess the reliability of the financial statements B. Whether the statements have been prepared in accordance with the same GAAP used from one year to another C. Whether the auditor has been able to gather sufficient evidence to warrant the statement that the financial statements present fairly D. Whether the accounting principles used are appropriate in the circumstances

D. Whether the accounting principles used are appropriate in the circumstances

14. The ethical dilemma that faces Ronnie Maloney is best described as: Whether the loan loss reserves of the bank were understated Whether to file a whistle-blower's complaint with the SEC under Dodd-Frank Whether to commit fraud to cover up stealing from the company D. Whether to properly inform the audit committee of critical audit matters

D. Whether to properly inform the audit committee of critical audit matters

The name of the international securities body that facilitates a country's choice to regulate the use and application of IFRS is: International Accounting Standards Board International Federation of Accountants International Organization of Securities Commissions International Securities and Exchange Commission

International Organization of Securities Commissions

The Restatement (Second) of Torts Approach: Expands an accountant's legal liability to third parties identified by the client as intended recipients of work Limits an accountant's legal liability to only those parties with which it has a privity relationship Limits an accountant's legal liability to only those parties that have been named by the client Expands an accountant's legal liability to all possible users of the audited financial statements

Expands an accountant's legal liability to third parties identified by the client as intended recipients of work The Restatement (Second) of the Law of Torts approach, sometimes known as Restatement 552,14 expands accountants' legal liability exposure for negligence beyond those with near privity (actually foreseen) to a small group of persons and classes who are or should be foreseen by the auditor as relying on the financial information. This is known as the foreseen third-party concept because even though there is no privity relationship, the accountant knew that that party or those parties would rely on the financial statements for a specified transaction.

Which of the following summarizes the essence of general responsibilities of GAAS?

Quality of professionals that perform an audit

The fraud at Satyam involved: Related party transactions, fictitious revenue and falsified bank account balances Related party transactions, impaired assets and off- balance sheet entities Impaired assets, falsified bank account and facilitating payments Fictitious revenue, contingent liabilities and facilitating payments

Related party transactions, fictitious revenue and falsified bank account balances

The defendant-auditors in the Anjoorian case argued, in their defense, that: To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated. The plaintiff's theory of damages did not meet the foreseen legal criteria They had no liability to the client because the client did not rely on the audited financial statements They followed generally accepted auditing standards

To be found guilty to third parties, the court must find that an accountant had contemplated a specific transaction for which the financial statement will be used and that no such transaction was contemplated