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Was the audit evidence sufficient and appropriate?

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It could be very interesting to see how this one develops!

A UK accountancy group signed off the 2007 accounts of one of their audit client companies, having accepted the valuation of £11 million for one of its assets, a ruby known as “The Gem of Tanzania”.

In the previous year’s accounts, a different firm of accountants had accepted the valuation of the same stone at £300,000.

On the basis of the £11 million valuation the owner of the company, came to the rescue of another company Wrekin Construction. Wrekin Construction was subsequently put into administration earlier this year and the administrators, Ernst & Young, looked to have the ‘ruby’ valued.

It turned out instead of being the world’s most valuable ruby, it was in fact a lump of anyolite worth in the region of £100!

Bet those previous auditors are not sleeping very well right now.

Still it would make a really nice paperweight!

Audit firms in the UK left unprotected against claims of negligence

It was announced recently in the UK media that Britain’s Big 4 auditing firms have been left exposed to a surge in negligence claims, after the Government refused to limit further the damages they could face.

The Big 4 have been lobbying hard for a cap on payouts, but although Lord Mandelson, the Business Secretary, appeared sympathetic to their concerns, he indicated that he was not prepared to change the law at this stage.

This decision has come as a great blow to the accounting firms, believing that there may not be another opportunity for a change in the law for some time. There fear is that they will be targeted by investors and liquidators looking to recover losses from big company failures and Madoff-type frauds.

Under existing company law, directors can agree, with shareholder approval, to restrict their auditors liability, but to date, no leading companies have done so.

Three of the Big 4 face litigation in relation to Bernard Madoff’s $65 billion fraud.

In 2005 Ernst & Young was sued for £700 million by Equitable Life, the claim was eventually dropped, but would have bankrupted the firm in the UK if successful.

Earlier this year KPMG were sued for $1 billion by creditors of New Century, a failed sub-prime lender.

Big 5 became Big 4 of course following the collapse of Arthur Andersen in the wake of the Enron scandal.

Some fear that Big 4 dominance of the audit market is such that British business would be subject to a state of disarray if a massive court action were to reduce Big 4 to Big 3! It was announced in the UK media that Britain’s Big 4 auditing firms have been left exposed to a surge in negligence claims, after the Government refused to limit further the damages they could face.

Auditors cleared in landmark negligence case

This was one of the headlines that recently caught my eye, remembering that auditor’s liability is one of the few ‘new topics’ in ACCA P7.

In August 2009, the UK Law Lords on a split decision (3:2) upheld an earlier ruling by the Court of Appeal in a multi-million pound action brought by the liquidator of Stone & Rolls (a commodity trader) against their auditors Moore Stephens.

The Law Lords ruled that the auditors were not liable for failing to detect a £58 million fraud perpetrated over a number of years.

The fraud involved the CEO of Stone & Rolls, a Croatian businessman called Zvonko Stojevic, using the firm as a means of defrauding banks by means of a letter of credit scam.

The split decision perhaps provides less clarity than the auditing profession might have wished for in relation to the court’s view on an auditor’s liability for the detection of fraud.

The senior Law Lord, Lord Phillips, said “It does not seem just that in these circumstances, Stone & Rolls should be able to bring about a claim that it had set about inducing.”

Lord Manse, dissenting said “the world has sufficient experience of Ponzi schemes ….. for it to be questionable policy to relieve from all responsibility auditors negligently failing in their duty to report on such companies’ activities.”

We could be seeing a whole number of new claims against auditing firms worldwide as companies go into liquidation in the current economic crisis.

What’s your view on this case? Who knows the examiner might ask you!

What kind of dog are you?

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Way back in 1896 in the famous Kingston Cotton Mill Case, was Lord Justice Lopes suggesting that auditors need a dog licence?

The facts of this case were basically that an action was brought against the auditors of the company for negligence, in failing to detect a fraud which involved the management of the company wilfully overstating the value of the company’s inventory.

In finding that the auditors were not guilty of negligence, the Judge famously said the following:

“An auditor is not bound to be a detective, or … to approach his work with suspicion, or with a foregone conclusion that there is something wrong. He is a watchdog, not a bloodhound.”

The Oxford English Dictionary provides us with the following definitions:

Watchdog: ‘A dog kept to guard private property.’

Bloodhound: ‘A large hound with a very keen sense of smell, used in tracking.’

It’s a long time since 1896 and nowadays, there is perhaps more a way of thinking that auditors should be a little bit less of a sleepy old watchdog, and rather more of an active bloodhound.

Make sure that you are up to date on an auditor’s responsibility for detection of fraud.

Every gentleman is a man, but…

Every gentleman is a man, but not every man is a gentleman. Every lady is a woman, but not every woman is a lady.

By now I have either upset all students, regardless of gender, or hopefully I have rather got you all interested enough to read on.

The real message I want to get across is that “Being a good accountant doesn’t necessarily mean you will be a good auditor, but perhaps you cannot be a good auditor unless you are a good accountant!”

Apologies to those of you who have already heard this because I taught you for ACCA F8, but the message is even more important for ACCA P7 the Advanced Audit and Assurance paper.

“Clearly, the auditor must fully understand the relevant financial reporting standards to be able to reach an opinion as to whether they have been complied with. This is why the Paper P7 exam will test, on a regular basis, the matters which an auditor must consider with regard to a variety of financial reporting issues.”

Hopefully you will recognise the above quotation, coming as it does from an article written by Lisa Weaver, the P7 examiner, which appeared in the November 2008 Student Accountant.

So if when you got the good news that you had passed P2 you had a ceremonial burning of your study materials, now is the time to rake through the ashes!

Looking for a good bedtime read?

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Reporter Norman C. Miller won a Pulitzer Prize in 1964 for his reporting on the De Angelis story.

Tino De Angelis was the ‘brains’ behind ‘The Great Salad Oil Swindle’ (the name of the book).

This case showed quite clearly that attendance at stocktaking by an auditor, will not provide, in itself, sufficient appropriate audit evidence on which to base the audit opinion.

I have always found one of the most interesting ways of studying internal control systems and auditing procedures is by looking at reports on frauds, indicating where things have gone wrong in real life.

Last time I looked on Amazon there were some copies of one of my favourite books available, alternatively perhaps try your local library.
Happy bedtime reading!