Audit - Chapter 4
Which of the following is accurate with respect to litigation involving CPAs? Answer A CPA will not be found liable for an audit unless the CPA has audited all affiliates of that company. A CPA may not successfully assert as a defense that the CPA had no motive to be part of a fraud. A CPA may be exposed to criminal as well as civil liability. A CPA is primarily responsible, while the client is secondarily responsible for the notes in an annual report filed with the SEC.
A CPA may be exposed to criminal as well as civil liability.
Assume that a CPA firm was negligent but not grossly negligent in the performance of an engagement. Which of the following plaintiffs probably would not recover losses proximately caused by the auditors' negligence? Answer A loss sustained by a bank named as a third-party beneficiary in the engagement letter in a suit brought under common law. A loss sustained by initial purchasers of stock in a suit brought under the Securities Act of 1933. A loss sustained by a client in a suit brought under common law. A loss sustained by a lender not in privity of contract in a suit brought in a state court which adheres to the Ultramares v. Touche precedent.
A loss sustained by a lender not in privity of contract in a suit brought in a state court which adheres to the Ultramares v. Touche precedent.
A CPA issued a standard unqualified audit report on the financial statements of a client that the CPA knew was in the process of obtaining a loan. In a suit by the bank issuing the loan the CPA's best defense would be that the: Answer Audit complied with generally accepted auditing standards. Client was aware of the misstatements. Bank was not the CPA's client. Bank's identity was known to the CPA prior to completion of the audit.
Audit complied with generally accepted auditing standards.
Which of the following is a correct statement related to CPA legal liability under common law? Answer CPAs are normally liable to their clients, the shareholders, for either ordinary or gross negligence. CPAs may escape all personal liability through incorporation as a limited liability corporation. CPAs are liable for either ordinary or gross negligence to identified third parties for whose benefit the audit was performed. CPAs are guilty until they prove that they performed the audit with "good faith."
CPAs are liable for either ordinary or gross negligence to identified third parties for whose benefit the audit was performed.
A case by a client against its CPA firm alleging negligence would be brought under: Answer The Securities Act of 1933. Common law. The Securities Exchange Act of 1934. The state blue sky laws.
Common law.
A case by a client against its CPA firm alleging negligence would be brought under: Answer The Securities Exchange Act of 1934. The Securities Act of 1933. The state blue sky laws. Common law.
Common law.
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.
Assume that a client has encountered a $500,000 fraud and that the CPA's percentage of responsibility established at 10%, while the company itself was responsible for the other 90%. Under which approach to liability is the CPA most likely to avoid liability entirely? Answer Comparative negligence. Joint Negligence. Contributory negligence. Absolute negligence.
Contributory negligence.
In which type of court case is proving "due diligence" essential to the auditors' defense? Answer Court cases brought by clients under common law. Court cases brought under the Securities Act of 1933. Court cases brought by third parties under common law. Court cases brought under the Securities Exchange Act of 1934.
Court cases brought under the Securities Act of 1933.
The most significant result of the Continental Vending case was that it:
Created a more general 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).
CPAs should not be liable to any party if they perform their services with: Answer Regulatory providence. Ordinary negligence. Due professional care. Good faith.
Due professional care.
An auditor knew that the purpose of her audit was to render reasonable assurance on financial statements that were to be used for the application for a loan; the auditor did not know the identity of the bank that would eventually give the loan. Under the foreseeable third party approach the auditor is generally liable to the bank which subsequently grants the loan for: Answer Lack of due diligence. Either ordinary or gross negligence. Gross negligence, but not ordinary negligence. Lack of good faith.
Either ordinary or gross negligence.
The Second Restatement of the Law of Torts provides for auditor liability to a limited class of foreseen third parties for: Answer Either ordinary or gross negligence. Only gross negligence. Only criminal acts. Only fraud.
Either ordinary or gross negligence.
Under Section 10 of the 1934 Securities Exchange Act auditors are liable to security purchasers for: Answer Ordinary negligence. Lack of due diligence. Auditors have no liability to security purchasers under this act. Existence of scienter.
Existence of scienter.
A CPA's duty of due care to a client most likely will be breached when a CPA: Answer Fails to give tax advice that saves the client money. Gives a client an oral report instead of a written report. Fails to follow generally accepted auditing standards. Gives a client incorrect advice based on an honest error of judgment.
Fails to follow generally accepted auditing standards.
The burden of proof that must be proven to recover losses from the auditors under the Securities Exchange Act of 1934 is generally considered to be: Answer Greater than the Securities Act of 1933. Less than the Securities Act of 1933. The same as the Securities Act of 1933. Indeterminate in relation to the Securities Act of 1933.
Greater than the Securities Act of 1933.
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.
If a CPA recklessly departs from the standards of due care when conducting an audit, the CPA will be liable to third parties who are unknown to the CPA based on Answer Negligence. Gross negligence. Strict liability. Criminal deceit.
Gross negligence.
Jones, CPA, is in court defending himself against a lawsuit filed under the 1933 Securities Act. The charges have been filed by purchasers of securities covered under that act. If the purchasers prove their required elements, in general Jones will have to prove that: Answer The plaintiffs did not show him to be negligent. He is not guilty of gross negligence. He performed the audit with due diligence. He performed the audit with good faith.
He performed the audit with due diligence.
In a common law action against an accountant, lack of privity is a viable defense if the plaintiff: Answer Bases the action upon fraud. Can prove the presence of gross negligence that amounts to a reckless disregard for the truth. Is the accountant's client. Is the client's creditor who sues the accountant for negligence.
Is the client's creditor who sues the accountant for negligence.
Which of the following is not correct relating to the Private Securities Litigation Reform Act of 1995? Answer It provides certain small investors better recovery rights than it does large investors. It retains joint and several liability in certain circumstances. It eliminates securities fraud as an offense under civil RICO. It makes recovery against CPAs more difficult under common law litigation.
It makes recovery against CPAs more difficult under common law litigation.
Assume that $500,000 in damages are awarded to a plaintiff, and the CPA's percentage of responsibility established at 10%, while others are responsible for the other 90%. Assume the others have no financial resources. As a result the CPA has been required to pay the entire $500,000. The auditor's liability is most likely based upon which approach to assessing liability? Answer Contributory negligence Absolute liability Proportional liability. Joint and several liability.
Joint and several liability.
Which of the following is the best defense that a CPA can assert against common law litigation by a stockholder claiming fraud based on an unqualified opinion on materially misstated financial statements? Answer Contributory negligence on the part of the client. Lack of gross negligence. A disclaimer contained in the engagement letter. Lack of due diligence.
Lack of gross negligence.
Loss sustained by a lender not in privity of contract; suit brought in a state court that adheres to theRosenblum v. Adler precedent.
Liable
Losses to stockholders purchasing shares at a public offering; suit brought under the Securities Act of 1933.
Liable
Which of the following must be proven by the plaintiff in a case against a CPA under the Section 11 liability provisions of the Securities Act of 1933? Answer The unqualified opinion contained in the registration statement was relied upon by the party suing the CPA. The CPA was negligent. The CPA knew of the misstatement. Material misstatements were contained in the financial statements.
Material misstatements were contained in the financial statements.
Under the Securities Act of 1933 the burden of proof that the plaintiff sustained a loss must be proven by the: Answer Plaintiff. Defendant. SEC. Jury.
Plaintiff
Assume that $500,000 in damages are awarded to a plaintiff, and the CPA's percentage of responsibility established at 10%, while others are responsible for the other 90%. Assume the others have no financial resources. The CPA has been required to pay $50,000. The auditor's liability is most likely based upon which approach to assessing liability? Answer Proportional liability. Contributory negligence. Joint and several liability. Absolute liability.
Proportional liability.
Under the Securities and Exchange Act of 1934, auditors and other defendants are faced with:
Proportionate liability.
Under which common law approach are auditors most likely to be held liable for ordinary negligence to a "reasonably foreseeable" third party? Answer Ultramares Approach. Restatement of Torts Approach. Due Diligence Approach. Rosenblum Approach.
Rosenblum Approach.
In which of the following court cases was a precedent set increasing liability to third parties arising from audits under common law? Answer Continental Vending. Hochfelder v. Ernst. 1136 Tenants Corporation v. Rothenberg. Rosenblum v. Adler.
Rosenblum v. Adler.
Which of the following court cases highlighted the need for obtaining engagement letters for professional services? Answer Rosenblum v. Adler. 1136 Tenants Corporation v. Rothenberg. Hochfelder v. Ernst. Ultramares v. Touche.
Rosenblum v. Adler.
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 statements 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 statements, the CPA is being sued by an investor who purchased shares of this public offering. Which of the following represents a viable defense? Answer The misstatement is immaterial in the overall context of the financial statements. The CPA detected the misstatement after the audit report date. The investor has not proven CPA negligence. The investor did not rely upon the financial statement.
The misstatement is immaterial in the overall context of the financial statements.
Which statement best expresses the factors that purchasers of securities registered under the Securities Act of 1933 need to prove to recover losses from the 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."
Quincy bought Teal Corp. common stock in an offering registered under the Securities Act of 1933. Worth & Co., CPAs, gave an unqualified opinion on Teal's financial statements that were included in the registration statement filed with the SEC. Quincy sued Worth under the provisions of the 1933 Act that deal with omission of facts required to be in the registration statement. Quincy must prove that: Answer Quincy was in privity with Worth. There was a material misstatement in the financial statements. There was fraudulent activity by Worth. Quincy relied on Worth's opinion.
There was a material misstatement in the financial statements.
The Private Securities Litigation Reform Act of 1995 imposes proportionate liability on the CPA who: Answer Unknowingly violates the 1933 Securities Act. Unknowingly violates the 1934 Securities Exchange Act. Knowingly or unknowingly violates the 1934 Securities Exchange Act. Knowingly or unknowingly violates the 1933 Securities Act.
Unknowingly violates the 1934 Securities Exchange Act.
Hark, CPA, negligently failed to follow generally accepted auditing standards in auditing Long Corporation's financial statements. Long's president told Hark that the audited financial statements would be submitted to several, at this point undetermined, banks to obtain financing. Relying on the statements, Third Bank gave Long a loan. Long defaulted on the loan. In jurisdiction applying the Ultramares decision, if Third sues Hark, Hark will: Answer Lose because Hark knew that a bank would be relaying the financial statements. Win because Third was contributory negligent in granting the loan. Win because there was no privity of contract between Hark and Third. Lose because Hark was negligent in performing the audit.
Win because there was no privity of contract between Hark and Third.
