Auditing Chapter 4

If the CPAs provided negligent tax advice to a public company, the client would bring suit under:

Common law Negligent tax advice would ordinarily result in a suit brought under common law. Note that the client is not covered under the Securities Act of 1933 or the Securities Exchange Act of 1934.

Under common law, the CPAs who were negligent may mitigate some damages to a client by proving:

Contributory negligence Contributory negligence, negligence on the part of the plaintiff, may be used as a defense and the court may limit or bar recovery by a plaintiff whose own negligence contributed to the loss.

The most significant result of the Continental Vending case was that it:

Created more awareness of the possibility of auditor criminal prosecution. The Continental Vending case was a landmark in establishing auditors' potential criminal liability under the Securities Exchange Act of 1934. The case involved audited financial statements, was brought under statutory law, and did not involve registration statements (which are covered by the Securities Act of 1933).

Which of the following cases reaffirmed the principles in the Ultramares case?

Credit Alliance Corp. v. Arthur Andersen & Co. The Credit Alliance Corp. v. Arthur Andersen & Co. case reaffirmed the principles in the Ultramares case by clarifying the conditions necessary for parties to be considered third-party beneficiaries.

A common law case in which the court held that auditors should be held liable for ordinary negligence only to third parties they know will use the financial statements for a particular purpose

Credit Alliance v Arthur Andersen & Co.

A landmark case in which the auditors were held liable under Section 11 of the Securities Act of 1933

Escott V. BarChris Construction Corp

Which of the following elements is most frequently necessary to hold CPA liable to a client?

Failed to exercise due care A CPA may be found liable to a client when due care has not been exercised.

If a CPA performs an audit recklessly, the CPA will be liable to third parties who were unknown and not foreseeable to the CPA for:

Gross negligence A CPA will be liable to third parties who were unknown and not foreseeable for gross negligence. It should be pointed out that if the third party had been "foreseeable," liability might be established for ordinary negligence under a court following the Rosenblum v. Adler decision.

A case that established that auditors should not be held liable under the Securities Exchange Act of 1934 unless there was intent to deceive

Hochfelder v Ernst

Under the Securities and Exchange Act of 1934, auditors and other defendants are faced with:

Proportionate liability The Private Securities Litigation Reform Act of 1995 amended the Securities and Exchange Act of 1934 to place limits on the amount of the auditors' liability through establishing proportionate liability.

A case that established the precednet that auditors should be held liabale under common law for ordinary negligence to all foreseeable third parties

Rosenblum V Alder

A case in which the court used the guidance of the second restatement of the law of torts to decided the auditors liability to third parties under common law

Rusch Factors Inc V Levin

In cases of breach of contract, plaintiffs generally have to prove all of the following, except:

The CPA made a false statement The plaintiffs need not prove that the CPA made a false statement, it is enough to prove losses and breach of a duty that the CPA had.

Which of the following approaches to auditors' liability is least desirable from the CPA's perspective?

The Rosenblum approach The Rosenblum Approach provides more third parties the ability to recover damages from the CPA who has performed an engagement with ordinary negligence, and accordingly, is least desirable from the perspective of the CPA. The Ultramares Approach is most desirable, and the Restatement Approach (also known as the Foreseen User Approach) is between the two extremes.

A CPA issued an unqualified opinion on the financial statement of a company that sold common stock in a public offering subject to the Securities Act of 1933. Based on a misstatement in the financial statement, the CPA is being sued by an investor who purchased shares of this public offering. Which of the following represents a viable defense?

The false statement is immaterial in the overall context of the financial statements. A CPA may avoid liability under the 1933 Act by proving that their negligence was not the proximate cause of the plaintiff's loss. Accordingly, a finding that the false statement is immaterial would in all circumstances represent a viable defense.

Which statement best expresses the factors that purchasers of securities registered under the Securities Act of 1933 need to prove to recover losses from auditors?

The purchasers of securities must prove that the financial statements were misleading: then, the burden of proof is shifted to the auditors to show that the audit was performed with "due diligence" Under the Securities Act of 1933 purchasers of securities who sustain losses need only prove that the financial statements contained in the registration statement were misleading. Then the burden is shifted to the auditors to prove that they performed the audit with "due diligence."

A landmark case establishing that auditors should be held liable to third parties not in privity of contract for gross negligence, but not for ordinary negligence

Ultramares v. Touche & Co.

The 1136 Tenants' case was important because of its emphasis upon the legal liability of the CPA when associated with:

Unaudited financial statement The 1136 Tenants case was a landmark case concerning auditors' liability when they are associated with unaudited financial statements.

A case in which auditors were held liable for criminal negligence

United State v Simon Continental Vending